Monday, October 09, 2006

"See the Unexpected"--A New CEO at Clorox

On August 30, 2006, The Clorox Company (CLX-$64.44), marketer of recognized brand names, including its namesake bleach and cleaning products, Fresh Step and Scoop Away cat litters, Kingsford charcoal briquettes, Hidden Valley and K C Masterpiece dressings and sauces, and Glad trash bags, wraps and containers, entered into an employment agreement with Mr. Donald Knauss, which became effective on October 2, 2006, when Mr. Knauss began his employment as Chairman and CEO of the Company.

Under the terms of the agreement, Mr. Knauss, 55, will receive, among other things, an annual base salary of $950,000 and a sign-on cash bonus of $500,000. On his first day of employment, he received a ten-year option to purchase 275,000 shares of Common Stock and 83,500 restricted stock units (RSUs) that will vest over four years. The closing price of the Common Stock of Clorox on October 2nd was $63.21 per share, giving him an unrealized gain of about 1.9% on his potential new holdings.

Like Katie Couric at CBS Evening news, performance has nothing to do with the monies being guaranteed to Knauss—at least for his first year behind the anchor desk. Irrespective of Clorox’s financial performance for the fiscal year ending June 30, 2007, Knauss’ annual incentive bonus is guaranteed to equal at least $1.09 million (with a maximum payout for performance of $1.90 million).

Mr. Knauss is entitled to relocation benefits, including up to $50,000 in loss protection on the sale of his residence in Atlanta, Georgia, and up to $10,000 per month for temporary housing, plus certain commuting and house hunting travel costs, for a period of up to one year.

How desperate was Clorox to fill a leadership void at the Company? In addition to the aforementioned benefits, the new CEO talked Clorox into reimbursing him up to $40,000 for any legal fees and other expenses incurred in connection with the negotiation and drafting of the employment agreement, too!

"Money is plentiful for those who understand the simple laws which govern its acquisition."
–Personal Finance Author George S. Clason

Timing is everything. If so, Knauss is off to a good start at The Clorox Company. Slowing price growth in raw material costs should relieve some of the cost pressures that saddled key inputs to manufacturing and distribution in Fiscal Year 2006. These increases, which impacted commodities such as resin and diesel, contributed to a gross margin decline of 100 basis points (to 42.2% from 43.2% in fiscal year 2005).

For the year, income dropped 60 percent to $444 million, or $2.90 per share, from $1.1 billion, or $6.11 per share last year. Revenue grew 6 percent to $4.64 billion, from $4.39 billion last year.

The Clorox Company expects FY 2007 and FY 2008 earnings of $3.20 - $3.30 per share and $3.50 - $4.00 per share, respectively (on expected long-term sales growth of 3.0% - 5.0%). According to Reuters consensus estimates, analysts had been expecting the Company to report revenue of $4.8 billion in FY 2007 and share-net of $3.59 in FY 2008.

Citing an improving outlook for commodity costs, some analysts are revising upward their 2008 share-net estimates. Merrill Lynch, in a recent RESEARCH UPDATE raised the Common Stock of Clorox to a “buy” from “neutral,” and said it also raised its 2008 earnings per share estimate for Clorox to $3.73 from $3.55, up 15 percent year-on-year.

Viewing the current stock price in the context of its average four-year trailing multiple of 21.0 times earnings, at $64.44 per share, Clorox is fairly valued. In our view, the almost 20 percent gain in the price of Clorox’s stock already discounts the expected turnaround in operating margins and share-net growth.

Risks and positive adjustments to our opinion include quicker consumer acceptance of new product introductions (with lower than expected promotional activity) and continued manufacturing efficiencies (from lower raw material costs) leading to greater operating profitability.

Editor David J Phillips has no financial interest in any companies mentioned in this posting. The 10Q Detective has a full disclosure policy.

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