Newell Brands: Misconceptions

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About: Newell Brands Inc. (NWL)
by: Michael Wiggins De Oliveira
Summary

I lay out my free cash flow assumptions.

I explain Newell capital structure.

Newell is just too cheap to be ignored.

Executive Summary

The last several articles on Newell Brands (NASDAQ:NWL) on SA miss the point of this investment. Here, I lay out my interpretation of what the upside potential is likely to be derived from and what is not (in my opinion) all that relevant.

Newell NWL stock

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Investment Strategy

To be absolutely clear, I have a lot of respect for anyone who bothers to spend time thinking and laying out their thesis. My point of view on Newell is just that, my point of view.

Now, before getting stuck in, I think it's useful to remind ourselves of Warren Buffett's "Price is what you pay, value is what you get".

Here is the ultimate reality of any investment. That if a company does well, over time, its stock will do well. Having said that, it can take an awfully long time for facts to be sufficiently clear to allow its progress to be reflected in its financials, and then, it can take even longer for the market to recognize the discrepancy between said financials and the share price.

Overall, the market is mostly correct, although, from time to time, it is slightly prone to prolonged periods of irrationality.

Ongoing Dividend Policy

Similarly, on SA, there seems to be an unreasonable amount of discussion surrounding Newell's dividend policy and whether the dividend will indeed continue or not.

Let's focus on the numbers. Newell's dividend outlay amounts to approximately $400 million. It used to be higher, but given that Newell has been aggressively repurchasing shares, we can safely use this $400 million figure.

Looking ahead for 2019, Newell is guiding towards a low single-digit decline of core sales (say -5%). Which brings the revenue figure to approximately $8.1 billion worth of core sales. At the same time, Newell is targeting approximately 40 basis point improvement of normalized operating margin for 2019. Thus, operating income for core operations would minimally be hitting $800 million (before depreciation and amortization). Which is absolutely more than enough to keep its present ongoing dividend policy.

As a small aside, I'm not quite sure of the permanency of the position, but if indeed Newell's CFO Christopher Peterson were to become its full-time CEO, I could only envision this as a positive. Because what Newell's shareholders need more desperately now is a strong capital allocator.

Capital Allocation Strategy

In 2018, Newell had announced that it would be divesting of several non-core brands. The ultimate revised figure would reach $9 billion. As of Q1 2019, $6 billion worth of brands had already been divested. And, subsequently, some more brands have been divested for largely unknown amounts. We'll be sure to hear an updated figure during next month's earnings call.

However, what we do know is that 2019 is a transition year where Newell will spend $200 million in cash taxes and transaction costs related to these divestitures. Additionally, Newell will have to use a further $200 million for restructuring and related cash costs (total outlay $400 million).

Thus, although Newell guides for $300 million to $500 million of free cash flow, let's take the conservative figure of $350 million. And, going forward, the above $400 million will not recur. Hence, for 2020, it is reasonable to expect that Newell's ongoing core operations will be able to generate approximately $750 million of recurring free cash flow.

Now, keep in mind, Newell is targeting to exit 2019 with 3.5x net debt to EBITDA leverage. Newell ended Q1 2019 with net debt under $7 billion. For 2019, using the above-calculated figure for operating income of $800 million, together with $400 million of depreciation and amortization, at a very minimum, EBITDA will be somewhere around $1.2 billion to $1.4 billion.

Even taking $1.2 billion of EBITDA (which is a very dramatic reduction compared with the $2 billion which Newell generated in 2018) and putting a 3.5x multiple, as long as Newell's net debt is around $4.2 billion, it will be free to use any spare capital for share repurchases.

Those of you that are still reading this will probably ask, how does Newell's net debt go from $7 billion to $4.2 billion? Well, that's through the $3 billion expected from the divestment of non-core assets through the end of 2019.

Valuation - Large Margin Of Safety

Above, I have assumed no share repurchases, and I have used only the most conservative numbers. In fact, I believe that I'm being too conservative with the $1.2 billion of EBITDA for 2019.

Nevertheless, Newell will still be exiting 2019 without much in the way of leverage, as well as generating approximately $700 million of free cash flow.

Given that Newell's present market valuation is approximately $6.4 billion at close to 9x free cash flow, there is just so much more that can go right than can go wrong.

Takeaway

Newell finds itself in a very transitory period. It will emerge from 2019 as a much cleaner, more streamlined company. Realistically, it will have a new CEO who will have the necessary vision to right this ship.

Finally, although not discussed throughout the piece, given that Carl Icahn and Bret Icahn (Carl's son) are also invested in the stock at approximately $22-25 per share, and potentially higher, and own very close to 10% of the stock, we can be sure that Icahn will be doing everything he can to make sure they, as shareholders, will come out with a profit.

Disclosure: I am/we are long NWL. 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.