- Strong historical dividend growth for Kimberly-Clark, combined with no imminent threats, makes this tissue maker a strong buy at these levels.
- Levered Returns' Gordon Growth Model provides the appropriate valuation check for Kimberly-Clark, implying a fair value of approximately $133.
- Applying my assumptions, Kimberly-Clark is 20.0% undervalued based on the July 1st close price of $111.52. Try your own assumptions.
How to Value Kimberly-Clark
Kimberly-Clark (NYSE:KMB) is focused on being the leading provider of consumer essential products with brands that include Kleenex, Cottonelle, Scott, Huggies, and Pull-Ups. These brands are a trusted part of the lives of nearly one-quarter of the world's population in more than 175 countries according to the company. Firms selling fairly non-discretionary products that get used daily all over the world are able to deliver stable cash flows for investors. Kimberly-Clark has been able to grow its dividends per share every year since 1994 because of these characteristics. In addition, Kimberly-Clark has returned a total value of approximately $10 billion to shareholders in the form of dividends over the last 10 years. This jumps to approximately $19 billion including share repurchases. The table below illustrates these returns over the past ten years:
Based on the consistent nature of dividends shown above, I believe valuing future cash dividends can provide a reliable estimate of Kimberly-Clark's intrinsic value. Buying a stock for any other reason - say, paying 20x the company's earnings today because somebody will pay 30x tomorrow - is mere speculation in my opinion. I prefer valuing these future dividends using the Gordon Growth Model "GGM". However, there are material assumptions underlying this methodology which you can adjust in the models included along with this article to come to your own conclusions. I also apply a similar technique to value the future free cash flows of the company. The free cash flow approach allows you to estimate the intrinsic enterprise value of Kimberly-Clark and then subtract net debt and other items to conclude a per share value for the company (these assumptions are also changeable in the LR model).
Kimberly-Clark's GGM is illustrated in the stock price analysis table below. I assumed a long-term expected dividend growth rate of 5.0% which I believe is conservative based on Kimberly-Clark's 10 year compounded annual growth rate "CAGR" of 7.3% from 2004-2013 shown above. I assumed a levered cost of equity of 7.6% (build-up shown in the next section) which implies that the fair value of the company's share price is $133.14; a 19.6% premium to its July 1st closing price of $111.52.
Applying the same technique to the free cash flows of Kimberly-Clark, shown in table (2), implies a 19.4% premium to its July 1st closing price of $111.52. Key assumptions to this approach are highlighted below:
Overview of Free Cash Flow to Firm Assumptions:
- Terminal growth rate of 3.0% based on Kimberly-Clark's 10-year revenue and operating income CAGR from 2004-2013 of 3.4% and 3.1%, respectively.
- Weighted average cost of capital "WACC" of 7.0%. Build-up shown in the next section.
- Operating income % of revenue of 15.0% is equal to the company's 10-year average.
- Tax rate of 30.0%. Company's effective tax rate as of fiscal year 2013.
- Capital Expenditures % of revenue of 4.8% is equal to the company's 10-year average.
- Working Capital % of revenue, excluding cash and debt, of 5.0% is equal to the Company's 10-year average.
- Depreciation % of capital expenditures of 99.0% is equal to the Company's 10-year average.
Discount Rate Build-Up
The company's levered cost of equity and WACC was determined by applying the Nobel Prize winning Capital Asset Pricing Model "CAPM". This is the estimated return that equity stakeholders require for their investment in a company. I'm calculating the levered cost of equity of 7.6% is calculated in table (1) below.
I'm estimating the WACC of 7.0% using a range of assumptions highlighted below.
Discount Rate Assumptions:
- Levered beta of 0.60 to 0.70. The selection covers the range of betas observed in the financial markets as provided by CapitalIQ, Google Finance, and Yahoo Finance.
- Risk free rate of 3.5%.
- Additional risk premium adjustment of 0.0% to 1.0%.
- Company's cost of long-term debt of 5.0% to 6.0%. Reflects current yields on the company's fixed income per CapitalIQ.
- Tax Rate of 30.0%.
- Cost of equity weighting of 80.0% to 90.0% to conclude the WACC which reflects Kimberly-Clark's current capital structure.
Kimberly-Clark is a geographically diverse company that consistently produces cash flows and pays dividends with no signs of slowing down.
Value investors should certainly find this stock interesting at these levels given intrinsic value of the company's share price is likely north of $133, a 20.0% premium over its July 1st closing price of $111.52. Try you own inputs and let me know in the comments below.