WD-40 Company (Update 1)

WD-40’s recent Q2 2020 earnings support our original thesis and management refuted none of our concerns. We remain confident the business is under pressure, with sales and earnings declining even before the full effect of COVID-19. We believe the problems will only intensify once the Americas and EMEA businesses realize the economic impact of the virus. As the financial stress on WD-40 grows and earnings become under additional pressure, we believe the current dividend is at risk to be cut.

Financial Results Missed Street Expectations On The Top And Bottom Line: Sales: $100m vs. $103m and EPS: $1.04 vs $1.21e

Working Capital Intensified To New Highs. Working capital as a % of sales continues to escalate compared to the previous financial crisis when the metric declined. Spruce Point’s working capital analysis has been a successful indicator of numerous past financial disasters.

Dividend At Risk Of Being Cut. Evidence WD 40 In Discussions With Lenders About Dividend: On the most recent call, WD 40’s CFO stated the current strategy is to pay out 50% of earnings. As strong headwinds put the business under pressure and earnings in jeopardy, we believe the dividend is at risk of being cut. Share repurchase program was suspended.

Management Dodged Important Questions And Refuted None Of Spruce Point’s Concerns. Analysts started asking tougher questions on the most recent earning call regarding end market exposure and sales by channel. Management has not quantified the exposure and has spun its answers to discuss points they want to address. WD 40 continues to talk up e commerce, but has not addressed how they will safely ship the product in regions requiring air transportation. We continue to believe the product is not well adapted for an e commerce world.

Management Gave No Confidence That Lower Oil Prices Will Benefit WD 40. This Contradicts Recent Sell Side Bulls. Management stated, “only a small amount of the total cost to produce a can of the WD 40 Multi Use Product directly correlates to the price of a barrel of crude oil,” and it will “most likely be a net positive to gross margins”. These stand in contrast to its chart which shows 33% of a can’s cost attributable to petroleum based specialty chemicals. Analysts confidently boosted earnings for lower oil prices.

New Risk Factor Added Should Be Alarming Since It’s More Strongly Worded Than Peers. New risk factor warning of potential future write offs supports our belief that WD 40’s customers are under pressure. Current allowance for doubtful accounts is significantly below its peers’ average.

Shares Are Still Materially Overvalued For A Declining Company. WD 40 trades at 6.1x, 28x and 39x 2020E EV/Sales, EV/EBITDA and P/E, respectively for a declining non recession proof business. We still see long term price potential of $75 –$85 per share (55% downside) and expect analysts to start cutting price targets