Colgate-Palmolive Company (CL) reported its third quarter performance. Earnings for the quarter were in line with expectations, however sales volume grew by 2%, which was less than what was expected by the market. CL has a great business model and we are bullish on its business model, but we think current valuations are high if we compare them with its competitors. We recommend investors not to buy the stock before a valuation/price correction.
Colgate-Palmolive Company is a consumer product company with annual revenue of $17 billion. It is also the world's leading toothpaste maker. The company has a diverse revenue and operational structure with almost three quarter of the total revenue earned from markets outside the US. Moreover, almost 50% of the total revenue of the company comes from emerging markets which has been and will be the source of growth for the company in future.
We think CL has significant market power that helps the company to pass on the price increase to consumers. In the given situation, where consumer spending is weak, mainly in the US, and competition is high in the industry, advertisement & marketing spending becomes important for the company's growth. In the past, CL has had considerable pricing power, which is evident by the fact that gross profit margin for the company increased from 54% in 2004 to 58% in 2011.
The company recently announced its third quarter results. It reported net sales for the quarter of $4.33 billion, down 1% compared to the third quarter of 2011. As the company has significant international exposure, the strengthening of the dollar reduced net sales by 6%. CL experienced organic sales growth of 5% YOY. Global unit sales for the company grew by 2% in the quarter as compared to 4% in the first half of 2012. This reflects that the company had struggled to increase its sales volume in the quarter. CL has also been increasing its prices in order to push its top line up. Pricing had a 3% positive impact on net sales.
If we analyze the segment-wise performance of the company; Europe/South Pacific does not present an encouraging picture for 3Q 2012. Europe/South Pacific contributes nearly 20% to the company's sales, and for 3Q 2012 it was down 11% YOY. This decline was mainly due to foreign exchange exposure which had a negative impact of 8.5%. While net sales for Latin America in the quarter were in line with 3Q 2011 sales, sales for North America and Greater Asia/Africa were up 2.5% and 5% YOY, respectively. One positive take away from the recent earning release was that the company has significant global market shares in manual toothbrush (32.7%) and toothpaste (44.9%).
CL 's earnings for 3Q 2012 were in line with analysts' expectations. The adjusted earnings per share for the third quarter were $1.38, up 5% YOY. The company has been feeling the pressures of competition and in order to expand its market and compete efficiently, it has been spending aggressively on advertisement. Advertisement spending as a percentage of net sales was up 0.20% YOY to 10.5% in the third quarter of 2012. The margins of the company were stable, and displayed satisfactory YOY performance as the company faces intense competition. The company continues to increase its marketing and advertisement spending in efforts to boost its sales. The improvement in gross profit margin is a positive sign for the company and it can further improve it through ongoing marketing efforts. The table below shows the trend in margins.
Gross Profit Margin
Operating Profit Margin
Net Income Margin
Selling, General and Administrative exp as % of net sales
Source: Earnings release and Qineqt's calculations.
As the current business environment for CL is competitive and it has proved hard for it to increase its top and bottom lines, the company is now looking towards operational restructuring. The company will be reducing its workforce by 6%, amounting roughly to 2300 workers. This restructuring program will lead to more than $1 billion in charges through 2016. However, this will also help the company save around $365 - $435 million annually till 2016.
CL offers a dividend yield of 2.4%. Quarterly dividends for the company have increased from $0.4 in 2009 to the current $0.62. We believe the company's dividends are sustainable because it has a robust operating cash flow yield of 6% and a free cash flow yield of more than 4%.
We believe CL has a strong business model and its large emerging market exposure will help the company expand its top and bottom lines. Despite its strong business model, we think it's not the right time to buy the stock as its high valuations make it expensive. CL has a high forward P/E and PEG, of 17.8x and 2.3, respectively, as compared to its competitors-Procter & Gamble Co. (PG) and Kimberly Clark (KMB). Coupled with a high debt to equity of 195%, we think it is best to avoid the stock until we see a price correction.
Procter & Gamble Co.
Debt to Equity
Source: Yahoo finance
More than three quarter of the company's sales are derived from markets outside the US, which makes currency exposure a serious risk to the company's financial performance. Weak consumer spending and pressure from commodity prices also add up to the risk associated with the company's top and bottom lines.