Clorox Company (CLX)

Skyrocketing oil, plastic resin, and other input prices have drastically decreased Clorox margins in the past two years. Clorox uses plastic resins in a variety of products, especially in its trash bags, accounting for 6% of the company's total cost of goods. In fact, in 2008 increases in commodity costs negatively impacted gross margins by 2.70%, compared to a negative 1.10% impact in 2007. In response, Clorox has raised prices, exited the low-margin private-label trash bag manufacturing business, adjusted volume expectations, and focused on promoting higher-margin products.

Clorox also depends on a number of agricultural commodities. For example, soybean oil for salad dressing and corn starch for charcoal briquettes have experienced rising prices. Other energy sources and raw materials such as chlor-alkali (an important input in bleach) contribute to costs. Increases in the prices of these materials will hurt Clorox's margins.

Although some commodities have reached lows in the past year due to the cooling global economy, current market prices for waste wood products used for charcoal, clay used for kitty litter, pine oil for cleansers, and other important commodities have risen more from the lows than expected. CFO Dan Heinrich said 2010 first quarter sales could be down for this reason.

In the past decade, Clorox has faced stiff competition from private label brands or "store brands" of large retailers such as Wal-Mart, Target, and supermarket chains. Private label products often sell at lower price points and earn higher margins because the retailers can control the cost of their production. For example, Wal-Mart offers 5,500 products through its "Great Value" brand, which has increasingly sold as consumers feel the recession squeeze on their disposable income. From 2003 to 2008, sales of Target's private label products rose an average of 15% annually.

Large retailers are close to the consumers, have the point of sale data on consumer behavior and are in better position to understand consumer behavior. These strengths contribute to better private label product development, which directly compete with Clorox products. Retailers also promote their own brands as they earn higher margins on them. In 2008 2Q, sales volume fell 2% from last year, as retailers reduced inventory levels and consumers traded down to lower-priced private label alternatives.

Although Clorox's costs of goods sold will fall due to commodities' retreat from mid-2008 highs, the company now faces a likely recession and decreased spending from American consumers. As consumers trade down to less expensive goods, Clorox will have to lower prices or will lose sales.