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A Closer Look at Whirlpool's Appeal as a Long-term Dividend Growth Investment

Founded in 1898, Whirlpool (WHR) is the world's largest appliance manufacturer with over $20 billion in annual sales. The company makes and sells laundry appliances, refrigerators and freezers, cooking appliances, dishwashers, mixers, and other small domestic appliances.

These products are sold under its Whirlpool, KitchenAid, Maytag, Consul, Brastemp, Amana, Bauknecht, Jenn-Air, Indesit, and Hotpoint brands.
Source: Whirlpool Annual Report

Globally, Whirlpool's brands target an impressive 90% of the world's consumers, and the firm's sales are nicely diversified across its various produce lines.
Source: Whirlpool Annual Report
Whirlpool operates internationally via four business segments:

  • North America: 54% of 2017 sales
  • Europe, Middle East and Africa: 23% of sales
  • Latin America: 17% of sales
  • Asia: 7% of sales

While Whirlpool is a global company, in 2017 approximately 48% of sales were derived from the U.S. 

The company has paid uninterrupted dividends since 1972 and raised its dividend for six consecutive years. 

Business Analysis
Whirlpool has a rich history of product innovation, having introduced numerous consumer appliances to the global market over its 120-year history.
Source: Whirlpool Investor Presentation
In addition to its in-house product development work, Whirlpool's brand portfolio has expanded both organically, via new brand launches in foreign markets, as well as through periodic acquisitions.
Source: Whirlpool Investor Presentation
Combined with its steady accumulation of popular brands, including seven with over $1 billion in annual sales, that has resulted in Whirlpool holding No. 1 or No. 2 market share positions in each of its major geographic regions. 
Source: Whirlpool Annual Report
Thanks to its scale, Whirlpool enjoys very competitive costs to manufacture and distribute its appliances, an important advantage in this low-margin industry.

One of the keys to Whirlpool's success in achieving leading market share has been targeting every price point in the industry around the world:

  • Premium brands (15% of global market): KitchenAid, Jenn-Air
  • Mass market brands (75% of global market): Whirlpool, Maytag
  • Value brands: (10% of global market): Indesit, Amana

Going forward, Whirlpool's management has a sensible long-term capital allocation strategy designed to balance continued investment into product innovation and growth, along with returns to shareholders (dividends and buybacks).
Source: Whirlpool Annual Report
In 2017 the company invested about $1 billion into capex and R&D which allowed it to launch over 100 new products worldwide. That rate of new product launches is double what it was five years ago and helps the firm maintain its entrenched market position by continuing to build brand equity with consumers. 

Whirlpool has long been one of the industry leaders in incorporating new technologies (touch screens, internet connectivity, voice controls, etc.) into its products. The company is also focusing on reduced water and power usage. 

By 2020 the business expects to be selling 2 million products annually, all of which will be connected to the "internet of things." That means its products are able to be integrated with smart home systems like Amazon's Alexa and Google's Nest to offer consumers increased convenience and efficiencies.

Management expects that these investments in its business, along with Whirlpool's strong economies of scale, will allow the business to achieve modest organic growth (about 4% per year) and margin expansion in the coming years.
Source: Whirlpool Investor Presentation
A core driver of Whirlpool's margin expansion goal is the company's ongoing improvements in its global supply chain and manufacturing base. Between 2015 and 2017 the company was able to achieve $1.275 billion in cost savings (compared to annual sales of about $21 billion), though recently tariffs and trade disputes have offset these savings significantly.

Whirlpool's long-term growth strategy is to continue to maintain leading market share in large and mature markets such as North America and Europe. Stronger growth will come from emerging markets where solid economic growth and a fast-growing middle class are driving higher demand for quality appliances. 

Whirlpool is also investing in new product ranges, such as water purification, which are seeing booming demand in emerging markets like China and India. Unlike many appliances, water purifiers benefit not only from one-time hardware sales, but they also create recurring revenue from filters that can help smooth out cash flow over time as the installed base grows. 
Source: Whirlpool Investor Presentation
Over the long term, it's hard to imagine this mature, cyclical industry's growth exceeding a low single-digit rate. After all, demand for household appliances is largely tied to the economy, housing market, and overall population growth. As the giant in this space, Whirlpool seems unlikely to grow at a much faster pace. 

Should the company hit its 3-5% annual organic sales growth and 10% EBIT margin targets, while continuing to buy back stock, Whirlpool has potential to generate high single-digit EPS growth. The firm's payout ratio sits at the upper end of its target range today, so in this scenario future dividend growth would likely hover in the mid- to upper single-digit range as well. 

However, while Whirlpool is an industry leader currently trading near its lowest valuation in a decade, there are plenty of risks that income investors need to be aware of before investing. 

Key Risks
Whirlpool sells durable goods which are cyclical and tied to the health of the U.S. and global economies. During the Great Recession, Whirlpool's sales fell 13%. While that's not terrible, due to the high fixed costs required to manufacture appliances, the firm's earnings fell more than 40% during this time. 

This explains why management targets such a low EPS payout ratio (25-30%) for its dividend and also why the company has gone many years between dividend increases in the past. In other words, while Whirlpool's relatively high yield appears to be safe due to management's financial conservatism, investors can't expect clockwork-like annual payout increases from the company. That's especially true since Whirlpool faces numerous other challenges and risks.

One of those is currency risk, created by the fact that 52% of sales are from foreign countries. If the U.S. dollar appreciates against local currencies, then the company's products become more expensive (less competitive) in foreign markets where it doesn't have a local manufacturing presence. 

In addition, foreign sales translate into less revenue and earnings in U.S. dollars when Whirlpool reports results. While currency fluctuations tend to be mean reverting (cancel out over time), in the short to medium term they can create growth headwinds that might cause Whirlpool to miss its financial targets. That in turn could result in slower or even no dividend growth over several years.

Trade conflicts can also harm Whirlpool's short-term results. In January, Whirlpool benefitted from America imposing tariffs on foreign washing machines of 20% on the first 1.2 million imported units, and 50% tariffs on amounts over this. 

However, rivals such as Samsung and LG have started to move production to the U.S. to avoid these tariffs which make their products far more expensive in America. And in the long term, higher prices on washing machines could mean that U.S. sales slow down as some consumers get priced out. 

Meanwhile, steel tariffs have largely neutralized the benefits of washing machine tariffs. Approximately 60% of the company's total costs are from raw materials like steel and aluminum, which tariffs are targeting. 

These tariffs have increased the price of Whirlpool's main inputs, and today U.S. steel prices are about 60% above global prices, according to the company's CEO Marc Bitzer. 

That translates to $350 million in extra costs that are squeezing the company's margins, helping explain why Whirlpool's operating margin is currently about industry average (despite having the best economies of scale). 

As for the escalating trade war between the U.S. and China, Whirlpool generates about $1 billion in sales (5% of revenue) from that country. Thus a protracted trade conflict could harm the company's fastest-growing segment (sales growing about 6% per year).

Mr. Bitzer has warned investors that the company continues to face a "very challenging cost environment" due to higher steel prices and ongoing trade uncertainties disrupting its global supply chain. 

As long as tariffs and trade conflicts remain in effect, Whirlpool may end up missing its long-term growth and margin targets. For 2018 management has already lowered adjusted EPS guidance and margin targets. Additional reductions in future quarters aren't out of the question, but these issues ultimately seem unlikely to affect Whirlpool's long-term earning power.

Besides cyclical downturns, trade wars, and tariffs, the bankruptcy of Sears has created more short-term uncertainty for the company. Fortunately, as Mr. Bitzer stated on the company's third-quarter conference call, the impact appears to be very manageable and shouldn't put undue strain on the business:

"First of all, as we already in our announcement last week, the impact on our business is very limited. You saw in our, kind of, announcement, we had – at the end of the day we had a receivable exposure of roughly around $30 million, which is very low if you could have looked at historical standards...our Sears products historically, they are what you would call a build-to-order. We produce once we get the order and the forecast. So we don't have big ships coming over across the Pacific with lot of inventory, we build-to-order have a short supply chain and that's also probably the reason why our impact on our business is very limited."

A final risk to consider is the firm's high debt levels. Between 2012 and 2016 Whirlpool spent over $2.3 billion on acquisitions, which were funded mostly with debt. Notable deals include in 2014 buying a 60% stake in Italian appliance maker Indesit for $1 billion and dropping $552 million in 2013 to acquire a 51% stake in Chinese appliance maker Hefei Sanyo.

As a result, Whirlpool's leverage has increased above our preferred level. While the company's credit rating remains BBB (investment grade), Whirlpool will need to deleverage in the coming years in order to minimize the risk of rising long-term rates and improve its financial flexibility, especially since no one can predict when the next cyclical downturn in appliances will occur.
Source: Simply Safe Dividends

The company's deleveraging efforts might weigh on dividend growth, resulting in paltry increases over the next few years or even flat payouts, especially while tariffs are in effect.

Stepping further back, while Whirlpool undoubtedly has several competitive advantages and has been conservatively managed to ensure it has staying power for the long term, the business gives us a "best house in a bad neighborhood" feeling.

As you can see below, industry operating margins around the globe are rather abysmal, averaging near 1%. Aside from EMEA, where Whirlpool is looking to exit a number of loss-making businesses and restructure, the company's profitability is much better than the industry average.

However, Whirlpool is obviously far from immune to the perpetual challenges the industry faces, including volatile raw material and freight costs, capital-intensive manufacturing processes, price-sensitive consumers, and cyclical demand trends.
Source: Whirlpool Investor Presentation
Closing Thoughts on Whirlpool
Whirlpool is a time-tested household name, thanks to over a century of product innovation and assembling a strong portfolio of appliance brands all over the world. The company has an impressive track record of maintaining its dividend during industry downturns, and raising its payout steadily during good times.

Over the long term Whirlpool's capital allocation strategy of investing about 6.5% of sales into expanding and improving its manufacturing, along with developing new products, should serve it well by keeping its operations lean and its customers loyal to its brand. Targeting long-term profitable growth in emerging markets and new recurring revenue streams (water purification) will help, too. 

However, while Whirlpool's generous dividend appears safe, investors need to remember the business operates in a highly competitive, cyclical industry and carries above-average levels of debt. At the end of the day, it's hard to get excited about the company as a long-term investment given the challenging nature of the home appliances space.

With that said, thanks to concerns over global trade disputes, tariffs, and operating challenges in Europe, Whirlpool's cheap valuation may appeal to more active and risk tolerant investors. However, conservative, long-term investors seeking the calming reassurance of low stock price volatility and steady annual payout hikes in all economic and industry conditions may especially prefer to look elsewhere.

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