A Brief History of Kimberly-Clark's Returns

Despite constant attempts by analysts and the media to complicate the basics of investing, there are really only three ways a stock can create value for its shareholders:

1. Dividends.
2. Earnings growth.
3. Changes in valuation multiples.

In this series, we drill down on one company's returns to see how each of those three has played a role over the past decade. Step on up, Kimberly-Clark (NYSE: KMB).

Kimberly-Clark shares returned 72% over the past decade. How'd they get there?

Dividends pulled a lot of the weight. Without dividends, shares returned just 23% over the past 10 years.

Earnings growth was fairly week during the period. Kimberly-Clark's normalized earnings per share grew at an average rate of just 3.3% from 2001 until today. That's low -- just a notch above inflation -- particularly given the fact that shares outstanding dropped by about a quarter over the period. A lot of this reflects diminished prospects as competition from generic goods sold by the likes of Costco (Nasdaq: COST) and Safeway (NYSE: SWY) blossomed.

But if earnings were so weak, why were returns decent -- indeed market-beating? This chart explains some of it:

Source: S&P Capital IQ.

Compared with other large-cap stocks, Kimberly-Clark's valuation has stayed in a fairly tight range over the past decade. Many other consumer stocks like Procter & Gamble (NYSE: PG) and Coca-Cola (NYSE: KO) have seen valuation multiples drop like a rock over the past 10 years. The fact that Kimberly-Clark's has only fallen marginally has meant that middling earnings growth has actually translated into fairly decent shareholder returns.

And of course, the reason multiples didn't fall much over the past decade is because shares weren't that overvalued 10 years ago, as many (most) large-cap stocks were. This drives home one of the most important lessons in investing: Starting valuations determine future returns. A mediocre company bought at a good price can generate good returns. A great company bought at a dear price can leave shareholders stranded.

Why is this stuff worth paying attention to? It's important to know not only how much a stock has returned, but where those returns came from. Sometimes earnings grow, but the market isn't willing to pay as much for those earnings. Sometimes earnings fall, but the market bids shares higher anyway. Sometimes both earnings and earnings multiples stay flat, but a company generates returns through dividends. Sometimes everything works together, and returns surge. Sometimes nothing works and they crash. All tell a different story about the state of a company. Not knowing why something happened can be just as dangerous as not knowing that something happened at all.

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