Stock price: $61.52
Conclusion: Q2 numbers show that Procter &Gamble has started to reap the fruits of its marketing initiatives. Top line growth is accelerating driven by volumes while positive leverage more than offsets higher A&P spending. We expect investors to welcome this virtuous circle. Procter trades at a discount to the sector, which makes it attractive. We look for 20%+ return for the next 12 months based on our valuation range of $73-$75 per share.
Q2 results: Sales up 6% to $21bn, up 5% like for like. Core EPS up 22% to $1.10. Guidance for 2010 raised from $3.47-$3.59 to $3.53-$3.63 (+2% to +5%). Conference Call Transcript
Procter reported a strong acceleration in growth from +2% in Q1 to +5% organic in Q2, driven by a bounce back in volumes up 5% (vs -3% in +Q1). Baby care, fabric and home care and beauty posted strong gains, driven by innovation. Pricing remained positive (+1%) despite some adjustments, notably in laundry, tissue towel or batteries. Mix was down 2% as a result of faster growth in emerging markets. According to management, 3% growth came from the market and +2% from inventory building vs last year, resulting in flat shares.
Going forward, we think that Procter & Gamble could reach the high end of its +3+5% sales growth target for F10 due to:
- accelerating market growth (+2+3%)
- sequential improvement in the salon and the prestige businesses in H2 (according to Estee Lauder, prestige sales outpaced mass sales in the last two months of 2009)
- higher marketing spending and innovation rate
- compensating for lower pricing and a slight negative impact from Venezuela.
The second quarter and H1 underline the good balance between rising gross margin and higher marketing spending, leading to a 160bp gain in operating margin. Gross margin rose 330bp in Q2 (+310bp H1) thanks to lower commodity costs, manufacturing savings and pricing. Simultaneously, SG&A increased 170bp in Q2 (+150bp H1), due to higher marketing spending.
Progress in H2 will be held back by less pricing, lower commodity tailwind and the negative impact of Venezuela. Notwithstanding more headwind in H2, we expect Procter&Gamble to achieve 20.9% EBIT margin for the full year against 20.4% reported last year.We think that Procter & Gamble could achieve the top end of its $3.53-$3.63 per share forecast.
Procter & Gamble trades at 16xP/E based on calendar 2010 estimates, implying a 20% discount to its peers in Europe. Our DCF suggests a valuation closer to $75 per share. We think that the stock offers 20% upside potential based on a valuation range of $73-$75 per share.
Disclosure: Long PG at time of writing.