Whirlpool Is A Strong Buy: Cyclical Exposure With A Top-Tier Dividend (NYSE:WHR) (2024)

Thesis

A key factor to investment success is staying within one's "circle of competence," and Whirlpool (NYSE:WHR) certainly checks this box. However, as a consumer cyclical business, WHR currently finds itself between a rock and a hard place. The deterioration of US consumer confidence amidst a highly restrictive interest rate environment has cast a shadow of pessimism over Whirlpool, not seen since the Great Financial Crisis or the peak of the COVID-19 pandemic. Shares have fallen by over 60% since all-time highs of $257 in 2021, culminating into a loss of over $11B of shareholder value. Nevertheless, I would argue that this pessimism has created an incredible buying opportunity for those with a long-term time horizon. With a strategic turnaround plan in place and rate cuts on the horizon, WHR offers investors bargain-priced cyclical exposure alongside a whopping 7.36% dividend yield. As Wayne Gretzky says, it's important to skate where the puck is going, not where it has already been. Although Mr. Market is skeptical of the Whirlpool recovery today, I am confident he will have a change of heart in the near future. Let's take a deep dive into Whirlpool and determine how attractive this valuation really is.

Brief Company Overview

Founded in 1911, Whirlpool has become a global leader in the kitchen and laundry appliance space. If I had to guess, nearly every reader owns a WHR product, whether aware of it or not. These principal products include refrigerators, freezers, laundry machines, and small domestic appliances.

Whirlpool has one of the most diverse product portfolios in the industry, with brands like KitchenAid, Maytag, JennAir, and InSinkErator residing under the umbrella. With the help of these iconic brands in their toolbox, WHR has evolved into the #1 market share leader in both North and Latin America, along with the #3 market share position in India.

Housing market

If there is one company counting down the days until the first Fed rate cut, it would be Whirlpool. With roughly 60% of US homeowners having a mortgage rate below 4% and the current 30-year fixed mortgage rate hovering over 7%, we have essentially witnessed a frozen housing market.

Although US consumers have the money to invest in new or existing homes, many have chosen to hold out for lower rates, leading to a substantial rise in remodeling and refurbishment trends. As a result of this macro backdrop, Whirlpool's replacement sales have surged to 60% of total sales. With that said, I believe we are on the verge of a sea change in the US housing market, and Whirlpool is poised to be one of the biggest beneficiaries.

One of Whirlpool's most significant opportunities resides in the new construction and home sales category, which accounts for roughly 15% of total industry demand. As highlighted in the recent investor day, Whirlpool dominates this multi-billion dollar market as they are the #1 choice of homebuilders, with 8 out of the top 10 utilizing its full product lineup.

During the Q4 2023 earnings call, management highlighted that the US new housing market has been undersupplied by 3 to 4 million units for over a decade. Industry leaders have acknowledged this imbalance between supply and demand for years. Lennar (NYSE:LEN), one of the nation's largest homebuilders, emphasized the "chronically short" housing supply after reporting strong results this past quarter, primarily driven by new home orders increasing by 28%. With the median age of US homes being over 40 years, builders remain extremely bullish. According to the National Association of Home Builders (NAHB), "single-family housing starts nationwide are forecast to increase 4.7% this year and another 4.2% in 2025." For Whirlpool, this anticipated growth represents a tremendous opportunity, as each 5% increase in housing growth drives a 50 to 100 basis point increase in incremental appliance demand.

While new home sales have demonstrated continued strength in this restrictive interest rate environment, existing home sales present a different narrative. Discretionary demand, representing existing home sales, has fallen from its historical 30% share of industry demand down to 25%.

This was largely driven by the 40% decline in existing home sales since 2021, resulting in the lowest volumes in nearly three decades. During the Q4 earnings call, management stated that this market "needs a catalyst to unfreeze" and that the key driver will undoubtedly be lower mortgage rates. This discretionary demand is highly attractive for WHR as the margin foundation is substantially higher than both replacement and new construction sales. With a leading market share in major domestic appliances in North America, Whirlpool is poised to emerge as one of the biggest winners amidst this recovery.

Portfolio transformation and Restructuring

Whirlpool is currently undergoing a strategic portfolio review to refocus on higher-margin and higher-growth business. Management has already achieved significant progress, exiting markets like Africa and the Middle East, primarily due to their negative EBIT margins and lack of sustainable growth.

A monumental milestone of the portfolio review, highlighted in Q1, was the completion of the EMEA transaction. Investors should embrace this achievement, as the declining market in EMEA has long been dilutive to Whirlpool's margin foundation. The transaction merges Whirlpool's major domestic appliance business with Arcelik's EMEA business, the same company that previously acquired Whirlpool's Middle East and Russia operations. Whirlpool will have a 25% stake, worth approximately $500M, in the newly formed entity, Beko Europe. Management expects substantial value from the transaction, projecting "more than $750 million in net present value of future cash flow value, in addition to unlocking $200-$300 million of incremental free cash flow in 2025."

Management also announced the execution of the previously announced sale of its 24% stake in Whirlpool India, generating $468M. While management plans to use the proceeds to pay down debt, this transaction was essentially a lucrative form of asset arbitrage. With Indian benchmark indices approaching record highs, Whirlpool's Indian business was trading at nearly a 50x P/E multiple. This presented a highly attractive opportunity given that WHR trades at a roughly 7x P/E on the NYSE. Management also expects the divestiture of Brastemp, its Brazilian water filtration business, to close in the back half of this year. Management expects to generate roughly $500M of cash between these transactions during FY2024.

A key part of the portfolio transformation also involves substantial cost savings and a simplified organizational structure. Management is on track to deliver $300M to $400M in cost savings in FY2024, excluding any raw material savings. This comes after $800M in cost savings and a 7% reduction in the global salaried workforce achieved in FY2023. Since 2019, management has slashed its workforce from 92k to 59k employees, combined with the closure of 7 major manufacturing plants. Also, management recently announced plans to eliminate an additional 1000 salaried positions globally. This shift towards a leaner, decentralized model puts WHR in a strong position to capitalize on the next wave of growth, a move that investors should welcome.

Higher margin product portfolio

The fundamental goal of this portfolio transformation is to establish a business with higher growth and margins in order to achieve multiple expansion. With consumers continuing to scale back on big-ticket discretionary purchases, it makes sense that management has looked to transform the century-old business. By leaning in on categories like small domestic appliances, Whirlpool has the ability to mitigate the cyclical nature of its flagship MDA business.

At the forefront of this transformation is KitchenAid. With over 80% market share in the US and 50% share globally, KitchenAid has evolved its product portfolio into a comprehensive range of cooking appliances beyond its iconic mixer. This robust segment is projected to achieve FY2026 revenues of $1.3B and EBIT margins of 16%, significantly above Whirlpool's overall goal of 9%. Management is heavily investing in these high-growth areas, introducing successful new products like fully automatic espresso machines. With two-thirds of US adults drinking coffee daily, it's great to see WHR tapping into the high-growth market. This past earnings call, management hinted at a "massive product launch in Q2," with some new products projected to grow in the 10% range. While the transformation is still in the early innings, I think this is a key pivot for WHR and carves out a multi-year runway of organic growth.

Another green shoot within the brand portfolio is the recently acquired InSinkErator, the global leader in the residential food waste disposal industry. InSinkErator dominates the space, with installations in over 80% of new homes. With projected FY2024 sales of $575M (6.8% YoY) and EBIT margins of approximately 20%, the brand offers tremendous value to the WHR portfolio and aligns with the overall pursuit of higher-margin business lines.

Balance Sheet

One of the biggest drivers of pessimism surrounding Whirlpool is its excess leverage, with a net debt of $5.94B. A solid portion of this debt was brought on by the 2022 acquisition of InSinkErator, bringing an additional $2.5B in term loans. This high debt load led to S&P Global downgrading Whirlpool's long-term rating to "BBB-," citing a subdued profit forecast. Management has made debt reduction a key priority for FY2024, revising its original $500M debt reduction goal up to $1B. While $2.1B of debt is not yet due until after 2030, and the weighted average interest rate is an attractive ~3%, I support the heightened focus as management works to the FY2026 2x net debt leverage target.

While this is certainly not a "fortress" balance sheet by any means, I take comfort in Whirlpool's ability to generate solid free cash flow. Although Q1 free cash flow was ($988M), this was primarily due to the closing of the EMEA transaction and seasonal patterns. Management still expects positive free cash flow generation of $550M to $650M for FY2024. Looking into FY2025 and beyond, the EMEA transaction is expected to accelerate free cash flow by $250M to $350M as management works towards the FY2026 target of 7% free cash flow as a percentage of sales. If management executes this target, this would lead to over $1.1B in FCF for FY2026.

Dividend and Share Repurchases

While Whirlpool’s business model may be cyclical, the quarterly dividend certainly is not. Currently yielding 7.36%, Whirlpool has paid the dividend for 70 consecutive years and likely has no plans to change that anytime soon.

With annual dividends of $7 per share and projected earnings per share between $13 and $15, the dividend can be considered safe. While WHR’s current payout ratio is well above its 10-year average of 31%, I expect this to revert over time with margin expansion and increased profitability.

In addition to this, Whirlpool still has $2.6B remaining on the current share repurchase program. Over the past ten years, management has returned $4.9B to shareholders via share repurchases and has reduced the share count by over 30%. While it would be nice to see massive share buybacks at these depressed prices, the lack of financial flexibility has hindered this as the current priorities remain debt reduction and the dividend.

Valuation

During 2020 through 2022, WHR regularly traded between $180-$230, hitting an all-time-high of $257 in 2021. Here is a financial summary of WHR in 2021:

• Total Revenue: $21.99B
• Gross Profit: $4.41B (20.05% Gross Margin)
• EBIT: $2.33B (10.59% EBIT Margin)
• Net Income: $1.78B (8.11% Net Profit Margin)
• Shares Outstanding: 62.10
• Earnings Per Share: $28.71

Here is my 3 year valuation for what I believe WHR can achieve down the road.

Starting with top-line revenues, I used management's guidance and long-term targets as a benchmark and forecasted $16.9B for FY2024 and $17.2B for FY2026. This was followed by a return to modest growth in FY2027 of 1.74%, well below the sector median of 2.51%. This is largely predicated upon the realization of existing home sales pent-up demand due to a lower interest rate environment. Next, I forecasted sequential 100 basis point gross margin expansion through FY2027. This would align gross margins with what we saw in FY2019 through FY2020. I used management's FY2024 guidance of 6.8% to forecast EBIT margins, followed by the FY2026 goal of 9% margins. By exiting negative EBIT markets and re-focusing on higher-margin product categories, management should have no problems achieving these margins. I forecasted net profit margins of 4.5% for FY2024, followed by sequential expansions of up to 7% in FY2027. For shares outstanding, I forecasted a reduction of 2M shares by FY2027. Given the $2.6B remaining on the share repurchase program and management's history of aggressive buybacks, this appears to be pretty conservative. This leads us to a FY2027 EPS of $23.11. By assigning an 8x P/E multiple to these earnings, in line with WHR's 5-year average of 8.37x P/E, we land at a share price of $184.88. This price target implies a 95% upside to WHR from today's share price. Over three years, this boils down to a 24% compounded annual growth rate ('CAGR') before considering any quarterly dividend payments.

Conclusion

As Mark Twain famously said, "History doesn't repeat itself, but it often rhymes." If history is any indication, it pays to be a buyer of WHR during cyclical downturns. Whirlpool offers investors the ability to ride the coattails of the US housing market recovery, all while collecting a 7.36% dividend yield. With a company-wide transformation in full effect and macro headwinds subsiding, the WHR recovery is well underway. I view any short-term weakness as an incredible opportunity to pick up a bargain-priced cyclical, potentially ready to rebound.

Jeffrey Adams