Stanley Black & Decker (SWK -1.59%) is not a particularly rewarding stock today, with the shares down 60% from their high-water mark in 2021. And 2023 is not expected to be a particularly good year for earnings.
But the company has a long history of success behind it, places a high value on rewarding investors with dividends, and is willing to accept some short-term pain so it can position itself for long-term success. Investors with a contrarian bent will probably like the story.
Ouch!
Ever hit your thumb with a hammer? It hurts a lot. That's probably a good comparison point for what's been going on with Stanley Black & Decker's earnings. In 2020, the company's adjusted earnings totaled $10.48 per share, a record. That fell to $4.62 per share in 2022. In 2023, it could fall all the way to zero although the top side of guidance could be as "high" as $2.00 per share. With that backdrop, it's pretty easy to see why investors would be so downbeat on the stock.
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But that steep decline has pushed the dividend yield, currently around 4.2%, toward the high end of the company's historical yield range. In fact, the yield hasn't been this high since the Great Recession. This suggests that Stanley Black & Decker is historically cheap today. That's backed up by a historically low price-to-sales ratio as well. Although earnings can be highly variable year to year, sales tend to be much more consistent. Thus, some investors believe that price-to-sales can provide a better read on valuation than the price-to-earnings ratio.
Making hard choices
There's a host of problems to consider with Stanley Black & Decker. For starters, it is a cyclical industrial firm with material exposure to customers via its tool business. People tend to react more quickly to economic ups and downs, which means this tool maker's financial results tend to react more quickly to economic shifts than other industrial stocks. Right now, that's showing up on the downside thanks to the economic uncertainty today.
But this is not the only problem. During the pandemic's height, Stanley Black & Decker had to adjust to supply disruptions. In order to ensure it had enough production to serve retailers, it had to increase inventory levels. And those inventories were generally more expensive than usual (again, thanks to the supply disruptions).
Now that the world has learned to live with the coronavirus, Stanley Black & Decker is reducing inventory levels. That means selling higher-cost inventory and curtailing production, which also increases costs. This is a short-term pain, but it will clean out the system and has to be done. Management has actually been working to speed up the process in order to get the hit out of the way as soon as possible.
In addition to these problems, Stanley Black & Decker has been focused on mending its balance sheet. Leverage ticked up following debt-funded acquisitions. Since that point, the company has been selling non-core assets and using the cash to pay down debt. The debt-to-equity ratio is around 0.85 today, which is still a little high historically speaking but much improved from the over 1.2 ratio it peaked out at not too long ago. There are rumors that more asset sales are on tap.
Meanwhile, management has remained committed to the dividend despite the headwinds. The annual streak of increases is at 56 years, making Stanley Black & Decker a Dividend King. It has survived adversity before, so it probably makes sense to give management the benefit of the doubt this time around. That's particularly true given that it appears to be taking the right steps to get the business back on track even though they increase the potential for short-term pain.
Uncertainty will continue
This industrial stock is facing a turnaround year in 2023, so don't expect the news flow to be particularly positive. But for investors who can handle a little uncertainty, it may be worth the risk to buy a Dividend King with a historically high dividend yield. Indeed, if management continues to make the hard calls, the story should, eventually, start to look better. At some point, that will show up in earnings, and Wall Street will get wise to the improvement. Right now, however, you still have time to buy before everyone else does.
