Fitch affirms BBB+ rating to Clorox's long-term IDR, unsecured bank facility and senior unsecured notes; outlook stable
September 25, 2012
– Fitch Ratings has affirmed The Clorox Company's (Clorox) (NYSE: CLX) ratings as follows:
--Long-term Issuer Default Rating (IDR) at 'BBB+';
--Short-term IDR at 'F2'
--Unsecured bank facility at 'BBB+';
--Senior unsecured Notes at 'BBB+';
--Commercial paper program at 'F2'.
Clorox's $1.1 billion revolving credit facility, $289 million in outstanding commercial paper and $3 billion in unsecured senior notes are affected by this action. The Rating Outlook is Stable.
Low Business Risk, Moderate Leverage:
Clorox's ratings are predicated on its low business risk, appropriate strategy of having brands with large or leading market shares in mid-sized categories, strong credit protection measures, and ample liquidity. Clorox has consistently been able to execute on pricing initiatives given its leadership position in key categories.
The company ended its fiscal year with leverage at 2.46x and at the high end of its target. Clorox's commodity exposure creates risk to its profitability and FCF's. Therefore the company has no further room in this rating category for marked increases in shareholder friendly activities or non-accretive acquisitions without a credible plan for debt reduction within 12-18 months. Fitch expects Clorox to balance any acquisition, divestiture or share repurchase program within its 2x - 2.5x leverage target.
Debt balances on a pro forma basis for the Sept. 10, 2012 issuance of $600 million in 10-year notes is temporarily high at $3 billion. Proceeds from the new notes are to pre-fund almost $850 million in debt maturities within the next four months. Fitch expects debt balances to return to the mid $2.5 billion balance the company has carried of late.
FCF Should Improve:
Clorox generated ample FCF of $105 million in FY2012. However, prior to 2010 the company consistently generated FCF in the $300 million range. Clorox's cash flow has been negatively impacted by a $100 million increase in dividends from 2007 to 2010. Concurrently, escalating commodity costs and other inflationary items in the supply chain moderately dampened profitability and cash flow. The auto-care sale in early F2011 also structurally moved cash flows moderately downward. The auto-care business had a relatively modest impact on revenues at just $300 million in 2010 but with profit margins of 40% (before taxes) it provided an outsized contribution to the company's free cash flow. Fitch estimates that auto-care provided approximately $50 million of annual FCF.
Fitch expects FCF in 2013 to improve significantly to the $150 million to $200 million range. Non-recurring cash payments such as last years' $36 million hedge settlement payment, Fitch's expectation that commodity costs should moderate, and modest additional profit from several small acquisitions (completed late Dec 2011) should bolster free cash flow despite higher levels of capex through 2013. Assuming there is no rapid run-up in key commodity costs and the current level of investment capex for systems and R&D investments trail off after 2013, FCF should improve further.
Slow Growth Markets with Moderate Commodity Pressure on Margins:
More than 75% of Clorox's revenues are generated in the U.S. where it competes in mature slow growth categories. Some categories such as trash bags and food storage have meaningful private label presence. Thus, absent acquisitions, Clorox's revenue growth has been in the low single digit range and at the lower end of the peer group. Further, commodities used in the manufacturing process such as resin can experience periods of price volatility and pressure the company's margins. However, the company has a long and successful track record of cost savings, a very fast cash conversion cycle with little variability (30-34 days), and strong brand leadership which has allowed it a solid measure of pricing flexibility.
The Stable Outlook is predicated on the company's solid cash flows and credit protection measures and managements intention to operate with moderate leverage.
For FY2012, Clorox's revenues increased 4.5%, led by pricing/mix of 1.8%, volume momentum of 2%, .9% due to three small acquisitions (Aplicare, Inc., HealthLink, Inc., Soy Vay Enterprises, Inc.), with a slight .2% negative offset from foreign exchange translation. Gross margins decreased 140 basis points as cost savings and pricing were not enough to offset commodity costs, logistics and other costs. Commodity costs including resins, chlor-alkali and corrugates which escalated during the first half of the fiscal year are expected to rise more
moderately going forward. Margins and profitability should benefit.
Clorox's considerable liquidity is derived from its $1.1 billion unused revolver which matures in May 2017, $267 million in cash and strong access to the capital markets. The company has significant near-term debt maturities with $850 million due within the next four months. Much of the $850 million has already been pre-funded with Clorox issuing $600 million in 10-year notes in September 2012. Cash and commercial paper borrowings will fund the $250 million differential. The remainder of Clorox's $2.2 billion in debt matures after 2015.
Rating Action Triggers:
Positive: The company has the financial flexibility to manage its credit metrics at higher levels given stable cash flows. Operating with leverage of less than 2x and demonstrating a commitment to staying within that band while maintaining its current business momentum would support upward migration of Clorox's rating.
Negative: A change in financial strategy to operate with higher leverage, or completing a large debt-financed share buyback or acquisition is likely to trigger a negative rating action. None of these actions are expected.