In 2020, mass-market retail lubricant manufacturer WD-40 (NASDAQ:WDFC) enjoyed its best year in the stock market since 2017, as its stock jumped 37% on revenue and earnings momentum. Sales of its multipurpose, name-sake product enjoyed a renaissance, as isolated consumers spent time with projects around the house during the pandemic -- a trend that remains unabated at the outset of 2021.
Yet as a consequence of recent investor enthusiasm, WD-40 now trades at a pricey 52 times current fiscal-year earnings (the company issued its fiscal first-quarter 2021 earnings on Jan. 7). Have shares of the popular household brand run too far, too fast?
Extreme revenue and earnings acceleration
Looking at a typical quarter for WD-40 pre-pandemic illustrates how meaningful COVID-19-influenced buying habits have been for the company. In the quarter ended February 29, 2020, WD-40 reported a 1% decrease in sales, to $100 million, and a 10% drop in net income, to $14 million. This was a fairly typical quarter, indicative of a trend, at the time, of flattish results (revenue declined by 4% in fiscal 2020). In contrast, in the first fiscal quarter of 2021, WD-40's top line soared by 26% to $125 million, while net income nearly doubled, to $24 million.
For a retail lubricant brand that sports mid-to-high single-digit revenue growth in a healthy quarter, recent growth has been rather extreme. The company is enjoying strength across product categories, from its core multi-purpose WD-40 spray can to its "multi-use" line of specialty lubricant and cleaning products. In the company's Jan. 7 earnings conference call, management attributed its impressive results to the "isolation renovation" trend. Indeed, in the fiscal first quarter of 2021, WD-40 BIKE lubricant product sales soared 260% year over year.
The company is also outperforming within key metrics. Management has maintained a long-term goal of reaching annual sales of $700 million (current trailing-twelve-month revenue is $435 million), in the context of a business model formula it dubs "55/30/25." This translates to a minimum gross margin of 55%, operating expenses (excluding depreciation and amortization) of 30% or less, and an EBITDA (earnings before interest, taxes, depreciation, and amortization) margin of at least 25%.
In the past, this has been an aspirational goal for WD-40, as it often falls several percentage points out of range of each benchmark. But recent vigorous sales have provided operating leverage and made this formula seem quite attainable: In Q1 2021, WD-40 hit a gross margin of 56.4%, an operating expense, or "cost of doing business" level of 32%, and an EBITDA margin of 24%.
Can these shares continue to climb?
Investors are undoubtedly paying a premium for WD-40 today due to its successful capture of market share in 2020, and its near-attainment of its profitable 55/30/25 model. The high forward PE multiple of 52 indicates that investors probably believe that the company will be able to keep this market share and expand revenue from a bigger annual base.
Nonetheless, it's inevitable that sales growth will cool as consumers' lives very gradually return to normal in 2021 and 2022. While management isn't issuing 2021 guidance due to remaining economic uncertainty, analysts on average expect the company's top line to grow by 13% year over year in fiscal 2021, and by 5.6% in 2022.
As conditions normalize, it's difficult to see a near-term lever that will help shares enjoy the kind of year they did in 2020. Even if we look past 2021, shares trade today at 49 times 2022 average earnings per share estimates of $5.88! This doesn't mean that WD-40 stock can't rise meaningfully over the longer term, however. While I believe the company is presently a bit overvalued, it could exceed expectations in revenue and bottom-line growth in the coming quarters, and thus "earn" its way into its valuation. Additionally, management will likely resume share repurchases within a few quarters as the pandemic fades (a practice that has helped the company boost share prices in past years).
Current shareholders should also remember that WD-40 is aggressively planning to meet its $700 million annual revenue goal. Achieving this mark over the next several years could certainly catalyze a significant move above the current stock level of $289. But given the current lofty market pricing of shares, the long-term path to new highs may well be rocky in patches.