Share prices of consumer staples giant Clorox (CLX 0.60%) are hovering around a three-year low after the company reported worse-than-expected quarterly results and slashed guidance earlier this month. A silver lining of the Clorox stock sell-off is that its dividend yield is now 3.3%, which is the highest it has been in seven years.
Clorox stock could keep falling in the short term. But there are reasons why it could be a good passive income stream for long-term investors.
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Clorox's fall from grace
Clorox's stock price hit its all-time high in August 2020 as the company couldn't produce enough cleaning products to satisfy customer demand. Clorox has since had trouble matching its peak pandemic performance -- posting quarter after quarter of disappointing results. The worst news came a couple of weeks ago when Clorox reported disappointing second-quarter fiscal 2022 results. Note that Clorox's fiscal year ends June 30.
The company slashed full fiscal-year guidance, reported a much lower gross margin, and indicated that commodity and transportation expenses would be closer to $500 million for the year instead of earlier projections that called for $350 million. Clorox's gross margin tends to fluctuate in the low- to mid-40% range. For Q2 fiscal 2022, it was 33%, which was a 21-year low.
CLX Gross Profit Margin (Quarterly) data by YCharts
There's no way to sugarcoat it: Clorox had a terrible quarter and is on track for a disappointing year. The company has been less effective than its competitors at passing along higher costs to consumers. During its Q2 fiscal 2022 conference call, Clorox said it could take at least 12 to 18 months for its gross margin to rebound to its normal range -- giving investors little to look forward to in the medium term.
A turnaround play in the making
Given the poor results and lackluster guidance, investors may be wondering why Clorox is a good dividend stock to buy now. For me, the investment thesis is simple. If you believe that Clorox will restore its gross margin and earnings to pre-pandemic levels in, let's say, two years, then the stock looks like a fair price right now.
Clorox earned a record $7.36 in diluted earnings per share (EPS) in fiscal 2020. That was an outlier, so let's look at $6.32 for fiscal 2019. Clorox stock is around $140 per share right now. Earning $6.32 in diluted EPS in a couple of years would give it a price-to-earnings ratio around 22, which isn't bargain-bin-level cheap. But we're also assuming Clorox's business posts zero growth between fiscal 2019 and fiscal 2024.
Get paid to wait with a sizable dividend
Long-term dividend investors care less about where a company is going to be in the next couple of years and more about its ability to pay and raise its dividend over time while growing the business. Clorox has dealt with inflation before, and it should be able to do it again. Its results may look ugly for a while, but if Clorox stock languishes it could begin to look cheap if it grows revenue and rebounds margins.
Clorox isn't going away anytime soon. It has a strong portfolio of consumer staples brands in a variety of product categories. Most importantly, Clorox should have no trouble raising its dividend even during this difficult time.
There's a good chance Clorox's free cash flow will be insufficient to support the dividend in the short term. However, the company has plenty of liquidity to pay the dividend. Funding a dividend with debt or by depleting cash on the balance sheet is not a sustainable solution. But Clorox knows that the dividend is one of the main reasons why investors hold its stock.
Clorox has paid and raised its dividend for 45 consecutive years, making it a Dividend Aristocrat. A Dividend Aristocrat is an S&P 500 component that has paid and raised its dividend each year for at least 25 consecutive years. Bear in mind that Clorox raised its dividend throughout periods of high inflation in the early 1980s -- not to mention a few stock market crashes. Given this track record, investors can take solace knowing that Clorox's dividend is safe and that it would take a black swan event much worse than anything we are experiencing now for the company's dividend to find its way onto the chopping block.
Close your eyes and wake up in three years
Investing $10,000 into Clorox stock and waiting three years should earn you $1,000 in dividend income, not to mention you'd be buying a reliable business for what could turn out to be a great price assuming Clorox regains its footing. Clorox isn't the kind of investment that is going to produce market-crushing results. But it's a solid way to generate passive income from a business that should be around for decades to come.
