Streetwise

Lauren Rudd

Sunday, February 16, 2014

Prior Success Does Not Convey Investment Expertise

How unfortunate it is that wealth derived from achieving professional success does not bestow a comparable level of investment expertise. Alas, neither does eligibility for Social Security. To the detriment of the gullible, enviable returns are offered up by pseudo experts with a supposedly elite understanding of market trends and psychology.

It is no real surprise that the promised returns are rarely, if ever, forthcoming. Yet a cornucopia of quality investments is readily available to virtually everyone. A good example is Sherwin-Williams (SHW), the nation’s largest paint manufacturer, known for its slogan that it covers the world.

Founded in 1866, Sherwin-Williams is a global leader in the manufacture, development, distribution, and sale of coatings and related products to professional, industrial, commercial, and retail customers. The company manufactures products under well-known brands such as Sherwin-Williams, Dutch Boy, Krylon, Minwax, Thompson's Water Seal, and many more.

The Company’s branded products are sold exclusively through more than 4,000 company-operated stores and facilities, while the company's other brands are sold through leading mass merchandisers. The Sherwin-Williams Global Finishes Group distributes a wide range of products in more than 109 countries.

When I last wrote about the company a year ago the shares were trading at $165.45. My 12-month projected share price was $184 pegged to estimated 2013 earnings of $7.80 per share. Earnings came in at $7.60 per share and the shares recently closed at $185.63 for a one-year capital gain of 10.9 percent.

When compared to the same periods in 2012, consolidated net sales for 2013 increased $651.1 million, or 6.8 percent, to $10.19 billion, of which acquisitions contributed about 1.8 percent. Net income per share came in at $7.60 per share as compared to $6.49 in 2012.

The company continues to generate significant cash from operations allowing it to invest in the business and return a substantial portion to shareholders. Stock buybacks continued during the year, and there was an annual cash dividend of $2.00 per share.

For the year, Sherwin-Williams generated net operating cash flow of $1.1 billion. The company’s working capital ratio (accounts receivable plus inventories less accounts payable to sales) as of last December 31, was 10.5 percent as compared to 10.8 percent in 2012. Growth in 2013 included 388 new stores, including 306 stores added through the recent Comex acquisition, with the result that Sherwin-Williams ended the year with 3,908 stores in operation.

Looking ahead to the first quarter of 2014, Sherwin-Williams is anticipating a consolidated net sales increase of 7 to 12 percent and net income for the first quarter of $.95 to $1.15 per share, as compared to $1.11 per share earned in the first quarter of 2013.

This guidance assumes that the Comex stores in the U.S. and Canada will contribute somewhere between $97 and $107 million to net sales and negatively impact net income by $.15 to $.25 per share.

For the full year, the expectation is for sales to increase 8 to 13 percent over the prior year. With annual sales at that level, the company is guiding towards a net income figure of $8.12 to $8.32 per share, as compared to the $7.26 per share earned in 2013.

This annual guidance includes the a projection that the Comex acquisition will increase net sales by a low single digit percentage in the year and negatively impact net income by no more than $.45 to $.55 per share.

The intrinsic value of the shares using a discounted earnings model, with an earnings growth rate of 14.55 percent and a discount rate of 12 percent, is $232 per share. The more conservative free cash flow to the firm methodology yields an intrinsic value of $274 per share.