Rusty Outlook For WD-40?

| About: WD-40 Company (WDFC)

Summary

WD-40 Company is one of my favorite household names and has made investors a killing over time.

The stock has recently run-up and the momentum may be stalling now in the shorter term.

Q3 earnings are out and I discuss the results as well as the expectations looking ahead.

WD-40 Company (NASDAQ:WDFC) is one of my favorite household names. Make no mistake, many of us use its products regularly. I rely on them, particularly in spring when it's time to start greasing up the garage tracks, the sliding glass patio door, loosening up the bike chains for the kids, etc. In 2014, I wrote about it being a buy-and-hold success story. As long as products require lubrication, the company will always have a market for its flagship multi-purpose maintenance products under the WD-40 brand. However, over the last year, there have been quarters that were certainly weaker than I would like. In some of these quarters when we dug deeper, we saw that this was just noise. However, back in April, I questioned if it was time to get out, but said to keep buying. Since then the stock is up another 10%. And now, the company just released its Q3 earnings, and they are less than stellar. What is going on here?

Well, the headline numbers show a revenue miss, but a bottom line beat. This continues a trend the company has been seeing in the last few quarters. With the somewhat so-so nature of the headline earnings, the stock is down on the news. So what is the deal here with the revenue miss? Well, once again sales for the quarter were impacted by currency issues. On an absolute basis, sales for the third quarter were $96.4 million, up 4% year over year. It missed, however, estimates by $2.86 million. This is becoming a bit of a pattern lately. The company is missing on sales estimates more often than not. Now, what I want to point out, however, is that if we look at the sales on a constant dollar basis, net sales for the quarter would have been $99.2 million for the quarter. That is up a million plus quarter over quarter on a constant dollar basis.

As you can see, when you back out the currency issues, things aren't as bad as they may seem. What is hurting the stock is expectations. Thus, Wall Street is punishing the stock for this quarter after the recent run-up in price. Why is that? Well, first, how about the earnings picture? Here things looked strong as earnings were a beat versus analysts' estimates, but are they rising? The answer is yes. Net income jumped 16% to $12.7 million compared to last year's quarter and earnings per share came in at $0.88, beating estimates by $0.02. This is a nice year-over-year increase and the company is heading in the right direction.

The best news out of this quarter, and one of the keys to this company I cited when I first highlighted it, is of course its margins. I had called for margin improvement when I first covered the company. This was because I felt the company would effectively reduce its input costs while managing price increases. Well, this has been the pattern the company has followed. Gross margin widened once again in Q3 to 56.8.4% from 53.3% last year. This is up from the 55.4% in Q2. The margins are excellent and you need to be aware of this. Gross margin expansion like this for such an established company is impressive. This increase in margins came despite an increase in expenses. In this quarter, administrative expenses were up 10% to $29.2 million versus last year. Advertising expenses were up 13% to $6.2 million. Overall, the company performed within my expectations. Garry Ridge, president and CEO, stated:

"We had a good quarter and are pleased we have seen solid year-over-year sales growth in maintenance products throughout all three of our trading blocs during the third quarter, despite the foreign currency exchange rate fluctuations which continue to impact our reported results. Our gross margin this quarter reflects the lowest oil costs we've seen in well over a decade. Our long-term target for gross margin is 55 percent however, as the cost of crude oil continues to increase from the extremely low levels that flowed through our cost of goods in the third quarter, we expect to see pressure on gross margin in the coming quarters. Overall, we believe the tribe has positioned us for a strong finish to fiscal year 2016 and we are pleased that we will be able to reward them for their hard work across the globe."

Once again, this is realistic commentary. We see here the company is now expecting margin pressures. This hurts the outlook and is causing some selling. But this selling is profit taking. Currency issues are real, with 40% of sales coming in different currencies. The strength of the dollar is a real threat to domestic companies doing a lot of business overseas. That said, the company still continues to try and contain costs and focus on improvement. I like that for the most part there is growth in most segments. Keep in mind that the company is incredibly shareholder friendly. The company has a nice share repurchase plan. It has been authorized to buy up to $75.0 million of its outstanding shares through August 31, 2016. On June 21, 2016, the board of directors approved a new share repurchase plan. This new plan will become effective as of September 1, 2016. Under the new plan, management is authorized to acquire up to $75.0 million of its outstanding shares through August 31, 2018. Further, you need to be aware that the company recently hiked its dividend 11% to $0.42 quarterly. That is the reason we own a stock like this. Slow long-term growth with dividend hikes along the way. Given the run-up in the stock, I now have a hold rating on the name.

Christopher F. Davis has been a leading contributor with Seeking Alpha since early 2012. If you like his material and want to see more, scroll to the top of the article and hit "Follow." He also writes a lot of "breaking" articles, which are time-sensitive, actionable investing ideas. If you would like to be among the first to be updated, be sure to check the box for "Real-time alerts on this author" under "Follow."

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.