Suvinil Acquisition And Expansion Will Strain Margins Yet Offer Upside

Key Takeaways

• Rising tariffs and flat raw material costs threaten gross margins, potentially compressing earnings without compensatory revenue growth.
  
• Aggressive expansion amid uncertain demand could strain resources, impacting returns if economic conditions fail to improve.
  
• Strategic acquisitions, disciplined capital allocation, and operational efficiencies position Sherwin-Williams for revenue growth and strengthen profitability despite challenges.

Catalysts

Engages in the development, manufacture, distribution, and sale of paint, coatings, and related products to professional, industrial, commercial and retail customers.

• Sherwin-Williams is experiencing pressure in its Performance Coatings Group, with sales below expectations, and decreases in price mix, volume, and negative FX impacts in key regions. This challenges the company's ability to drive revenue growth and maintain robust earnings.
  
• The flat raw material costs are expected to rise due to tariffs, which may increase overall costs more than anticipated. This puts pressure on maintaining gross margins, which could compress earnings if not offset by higher revenues.
  
• The company is expanding aggressively despite uncertain demand, with plans to add 80 to 100 new stores throughout the year. This may stretch capital resources and may not yield the expected return on investment if economic conditions do not improve, impacting net margins.
  
• Sherwin-Williams' Consumer Brands Group faces declining demand in the DIY sector, particularly in North America, even as they experience unfavorable FX effects. This struggle could prevent the company from achieving sales growth necessary to offset declining volumes, impacting overall revenue.
  
• Increased competition, high inflation, and fluctuating demand due to macroeconomic factors may impede the company's ability to adjust pricing as effectively in the past. This can challenge Sherwin-Williams' ability to maintain its high EBITDA margins and earnings growth expectations.

Sherwin-Williams Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Sherwin-Williams compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Sherwin-Williams's revenue will grow by 2.3% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 11.6% today to 13.0% in 3 years time.
• The bearish analysts expect earnings to reach $3.2 billion (and earnings per share of $13.33) by about May 2028, up from $2.7 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 25.6x on those 2028 earnings, down from 32.8x today. This future PE is greater than the current PE for the US Chemicals industry at 20.2x.
• Analysts expect the number of shares outstanding to decline by 1.23% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.02%, as per the Simply Wall St company report.

Sherwin-Williams Future Earnings Per Share Growth

Risks

• Sherwin-Williams demonstrated gross margin expansion in the first quarter due to a combination of price increases, supply chain efficiencies, and cost-control measures, which could positively impact earnings.
  
• The company is executing a disciplined capital allocation strategy by investing in share repurchases and increasing dividends, which could lead to sustained shareholder value and influence earnings positively.
  
• The Suvinil acquisition is expected to provide profitable growth opportunities and is likely to strengthen revenue and market position in Latin America significantly.
  
• The Paint Stores Group showed resilience with sales growth and continues to invest in expansion by opening new stores, potentially supporting revenue growth and market share improvement.
  
• Despite weak segments, Sherwin-Williams has been able to manage costs effectively and improve adjusted earnings per share, which indicates financial resilience and might impact profit margins positively.

Valuation

• The assumed bearish price target for Sherwin-Williams is $278.38, which represents two standard deviations below the consensus price target of $377.02. This valuation is based on what can be assumed as the expectations of Sherwin-Williams's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $420.0, and the most bearish reporting a price target of just $248.43.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $24.7 billion, earnings will come to $3.2 billion, and it would be trading on a PE ratio of 25.6x, assuming you use a discount rate of 7.0%.
• Given the current share price of $351.58, the bearish analyst price target of $278.38 is 26.3% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.