2023-03-20 04:42:46 ET
Summary
- Tough comps and headwinds from retail inventory destocking should adversely impact near-term sales.
- Margins should remain under pressure in the first half due to inflationary cost and volume deleverage.
- The medium to longer-term sales growth should benefit from the "One Newell" go-to-market approach, whereas margin growth should benefit from Project Pheonix initiatives.
Investment Thesis
Newell Brands' ( NWL ) sales and margin growth are expected to remain under pressure in the first half of 2023. Sales growth should be negatively impacted by tough comparisons versus the previous year, lower consumer discretionary spending, inventory destocking, and the normalization of consumer demand from peak levels during the pandemic. In the medium to long run, sales growth should benefit from the One Newell go-to-market approach, which is focused on reducing fragmentation and improving the decision-making process related to changing consumer behavior.
Margins are likely to be adversely impacted by operating deleverage and inflationary costs in the near term. However, the margin growth prospects in the medium to long term look favorable, benefiting from price increases and cost-saving and productivity enhancement initiatives taken by the company. Nevertheless, it is prudent to wait and watch for the benefits from these initiatives to materialize and for 1H2023 headwinds to fade before becoming more positive on the stock. Therefore, I have a neutral rating on Newell for now.
Revenue Analysis and Outlook
I previously covered Newell in January, where I recommended being on the sidelines. A few developments have happened since then, and the stock has seen some volatility. The company announced its cost-cutting initiatives and Q4 results post my article. The stock initially went up on its Project Phoenix cost-cutting and productivity enhancement initiatives but then corrected as investors decided to wait and watch for these initiatives to gain traction before becoming more positive on the stock. The company's fourth-quarter results were not impressive either, as I anticipated in my previous article.
NWL's Q4 2022 sales were negatively impacted by the normalization of consumer demand for general merchandising categories under the home and outdoor segments from the peak pandemic levels (when demand was driven by stimulus checks.) Additionally, retail inventory destocking in response to a weakening economy also impacted top-line growth, along with lower consumer discretionary spending due to rising interest rates and slowing macros.
As a result, NWL's sales for Q4'22 declined by 18.5% YoY to $2.3 billion, which included a 2.8 percentage point headwind from foreign currency and a 6.3 percentage point headwind from the divestiture of the low-performing Connected Home and Security (CH&S) business. Excluding the impact of foreign currency and divestiture, core sales declined by 9.4% YoY.
NWL's Historical Net Sales (Company Data, GS Analytics Research)
Looking ahead, I believe the near-term sales growth outlook is still a concern, particularly in the first half of 2023. Inventory destocking is expected to persist over the next couple of quarters, which should negatively impact sales growth. Additionally, the demand environment should continue to normalize as the benefits from stimulus-driven demand over the last few years fade. Furthermore, consumer discretionary spending is expected to remain under pressure due to the highly inflationary macro environment. Therefore, in the near term, these headwinds are likely to impact sales growth negatively.
There are also tough comps in the first half of 2023. On a 2-year stack basis, sales comps are 25.7% in Q1 and 21.7% in Q2 which should pressure Y/Y sales.
NWL's Net Sales growth (Company Data, GS Analytics Research)
However, sales decline should moderate as destocking ends and comps ease in the second half of the year. The company may also start seeing some benefits from its "One Newell" go-to-market approach under Project Phoenix. This approach aims to reduce fragmentation in the company and simplify the organizational structure.
For instance, according to management, earlier NWL had a situation where 44 people in Canada reported to 44 people in the U.S., creating a lot of duplication, complexities, and delays in decision-making in the organization. To address this situation, in the fall of 2022, the company implemented "One Newell" approach and appointed a new Country General Manager in Canada to create efficiency and accelerate growth, and all Canadian staff now reports to him. This simplifies and accelerates the decision-making process, especially around the go-to-market approach. For example, if a client buys multiple SKUs from Newell, instead of coordinating with multiple sales team who reports to their different superiors in the U.S., the client can now deal with one centralized sales team which reports to the Canadian country manager. The company is implementing the "One Newell" go-to-market approach in its other key geographies like Australia, New Zealand, Latam, and Japan as well, which should help its sales in these markets.
Moreover, the company is also moving to a "One Newell" sales model for its top customers like Walmart ( WMT ), Target ( TGT ), and Costco ( COST ). This "One Newell" sales model will centralize the sales teams previously handling these customers separately and simplify customer interaction. This should enable the company to efficiently manage its core customers to improve sales in the future. Lastly, NWL is also combining its five business segments into three, based on similar consumer dynamics and common customer base. This should help NWL to be more consumer and customer-centric and better leverage its scale and growth opportunities.
So, the One Newell go-to-market approach should help the company's sales growth in the medium to long term by improving the decision-making process with respect to changing consumer and customer preferences.
Margin Analysis and Outlook
In the fourth quarter of 2022, NWL's normalized gross margin was impacted by reduced fixed cost absorption and unfavorable foreign exchange. The operating margin was further impacted due to significant operating deleverage from sales decline in the quarter. The operating deleverage more than offset the benefits from price increases and productivity savings. This resulted in a ~350 bps Y/Y decline in normalized gross margin to 26.6%, whereas the normalized operating margin decreased ~500 bps Y/Y to 4.9%.
NWL's Historical Adjusted Gross and Adjusted Operating Margin (Company Data, GS Analytics Research)
I believe margins should remain under pressure in the first half of the year. The operating deleverage, and the inflationary cost is expected to continue in the near term, adversely impacting margin growth. Management also expects headwinds from currency and inflation to be more first-half weighted. However, as we move to the second half of the year and inflation moderates, and the company implements more price increases, especially outside the U.S., margins should improve.
Moreover, the company launched Project Ovid last year, a multiyear initiative focused on streamlining NWL's multiple supply chains into a single integrated supply chain and centralizing its manufacturing. The company should be able to improve its service delivery and support customers' omnichannel needs through these shared distributional centers. This should also help the NWL reduce costs associated with supply chains, as orders from multiple product categories and brands can be combined and shipped on one truck, reducing excess transportation costs.
The company also launched Project Phoenix in January 2023 to further simplify the operating model. Project Phoenix aims to strengthen the company by leveraging its scale, reduce complexity further, streamlining its operating cost structure, and driving operational efficiencies. The project is expected to be fully implemented by the end of 2023, and management expects to realize annualized pre-tax savings of $220-$250 million when this project is fully implemented. Project Phoenix is expected to result in the elimination of 13% of office positions by the end of 2023, and further achieve overhead cost saving through adopting a hybrid work environment by closing many offices in the U.S. These cost-saving and productivity initiatives should help the company in improving its margin in the medium to longer term.
Valuation and Conclusion
Newell Brands is currently trading at an 11.01x FY23 consensus EPS estimate of $1.03 which is a slight discount to its historical 5-year average forward P/E of 11.64x. While the company's one-Newell approach and Project Phoenix initiatives look promising, this is not the first time management has announced turnaround initiatives. The company announced significant strategic changes in January 2018 as well, which included repositioning its portfolio through strategic divestitures and reducing operational complexities. With stock trading much lower than January 2018 levels, that transformation initiative didn't generate the intended results. Also, despite of recently announced initiatives, legendary activist investor Carl Icahn trimmed his stake in the company. So, I am not comfortable taking management's words on the turnaround plans on their face-value. I need those words to be backed by action and see whether the company is achieving its intended traction with its turnaround plans. So, I am taking a wait-and-watch approach and will like to see the company's performance in 2H2023 and beyond before becoming more positive on the stock. For now, I prefer to be on the sidelines.
For further details see:
Newell Brands: Near-Term Woes, But H2 May Be Better