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Summary

  • Shareholders of P&G can expect a CAGR of about 7.5% due to growth (3%), dividends (3%), and share repurchases (1.5%).
  • Shares of P&G are overvalued by about 18%.
  • P&G is divesting their pet care business which has had declining sales.
  • P&G’s developing market revenue is growing at 8%.
  • P&G’s developed market revenue is in decline.

(click to enlarge)
Source: Procter & Gamble Investor Relations

Procter & Gamble (NYSE:PG) operates in 5 divisions: Beauty, Grooming, Health Care, Fabric Care and Home Care, and Baby Care and Family Care. The company's largest division is Fabric Care and Home care. The table below breaks down revenue and earnings by division:

Source: Procter & Gamble 2013 Annual Report, Page 24

Current State of Business

Procter & Gamble is divesting the Iams, Eukanuba, & Natura pet food brands. The brands are being sold to Mars Incorporated for $2.9 billion in cash. The proceeds will go to general corporate expenses.

Procter & Gamble's share of the pet care industry is around 5%. They are divesting their pet care brands due to a general weakness in the category. In 2013, Pet Care product volume was down in the mid single digits.

I would like to see this money returned to shareholders in the form of additional share repurchases rather than go to 'general corporate expenses.' The share repurchases should be done on dips over the next year, as Procter & Gamble is trading at a slight premium to its historical valuation ratios. A share repurchase of $2.9 billion would be about 1.3% of market cap at current prices.

Procter & Gamble expects 3% to 4% organic sales growth going forward. Organic sales for the 2nd quarter increased 3% year-over-year. The table below breaks down growth by division.

Division

Organic Sales Growth

Beauty

0%

Grooming

3%

Health Care

5%

Fabric Care and Home Care

4%

Baby, Feminine and Family Care

3%

Total P&G

3%

Source: Procter & Gamble 2nd Quarter Earnings Announcement

Organic sales growth in Procter & Gamble's top 10 developing markets was up 8% in 2013, while total organic growth was up just 3%. Procter & Gamble's developing markets make up 39% of total sales, while developed markets (US, Canada, Western Europe, & Japan) make up 61% of total sales.

Going forward, Procter & Gamble will generate more of their revenue from developing markets. This will continue to reduce the company's operating margin, as developing markets have a lower margin for Procter & Gamble than developed markets.

Catalysts

Procter & Gamble does not need a catalyst to continue its slow and steady growth. As long as the company continues to buy back shares and pay dividends, shareholders will be rewarded. Procter & Gamble will continue its low single digit organic growth through bolt-on acquisitions and increasing sales in developing markets.

Procter & Gamble has returned about 70% of cash flows from operations to shareholders over the last 3 years.

Year

2013

2012

2011

Cash Flow from Operations

$ 14,873

$ 13,284

$ 13,330

Dividends

$ 6,519

$ 6,139

$ 5,767

Net Shares Repurchased

$ 2,537

$ 2,295

$ 5,836

% Cash Returned

60.89%

63.49%

87.04%

Source: Procter & Gamble 2013 Annual Report

Procter & Gamble announced a dividend increase on April 7, 2014. The company raised its dividend by 7% from $0.6015 to $0.6436. This is the 58th consecutive year of rising dividends for Procter & Gamble shareholders.

Source: Procter & Gamble Investor Relations

Valuation

Procter & Gamble appears to be fairly valued based on its peer group.

Company

Ticker

P/E

Procter & Gamble

PG

22.07

Unilever

UL

19.27

Colgate-Palmolive

CL

28.11

Kimberly-Clark

KMB

20.33

Estee Lauder

EL

28.27

Energizer Holdings

ENR

16.15

Source: Finviz

Procter & Gamble's average P/E ratio over the last 10 years is about 18.7. Procter & Gamble trades at a slight premium to its historical P/E ratio. At Procter & Gamble's current P/E ratio, the company is overvalued by 18% based on its historical average P/E ratio.

Procter & Gamble vs Other Dividend Aristocrats

Procter & Gamble ranks at number 26 out of 102 compared to other stocks with 25+ years of increasing dividends using the 5 buy rules from the 8 Rules of Dividend Investing.

Rule 1: 25+ Years of dividend increases
Rank: Procter & Gamble has paid increasing dividends for 58 consecutive years.
Why it Matters: The Dividend Aristocrats (stocks with 25+ years of rising dividends) have outperformed the S&P 500 over the last 10 years by 2.88% per year.
Source: S&P 500 Dividend Aristocrats Factsheet

Rule 2: Rank Stocks by Dividend Yield
Rank: Procter & Gamble has a dividend yield of 2.95% which ranks them at 22 out of 102.
Why it Matters: The highest yielding quintile of stocks outperformed the lowest yielding quintile of stocks by 1.76% per year from 1928 through 2013.
Source: Dividends: A Review of Historical Returns

Rule 3: Rank stocks by payout ratio
Rank: Procter & Gamble has a payout ratio of 60.80% which ranks them at 86 out of 102. The company's payout ratio is higher than the majority of other dividend aristocrats, which is undesirable.
Why it Matters: High yield low payout ratio stocks outperformed high yield high payout ratio stocks by 8.2% per year from 1990 to 2006.
Source: High Yield, Low Payout by Barefoot, Patel, & Yao, page 3

Rule 4: Rank stocks by revenue per share growth
Rank: Procter & Gamble has a revenue per share growth rate of 4.59% over the last 10 years, ranking them 56 out of 102. This low revenue per share growth rate will likely not improve in the future.
Why it Matters: Growing dividend stocks have outperformed stocks with unchanging dividends by 2.4% per year from 1972 to 2013.
Source: Rising Dividends Fund, Oppenheimer, page 4

Rule 5: Rank stocks by their standard deviation
Rank: Procter & Gamble's long-term standard deviation of 18.40% ranks them at 6 out of 102
Why it Matters: The S&P Low Volatility index outperformed the S&P 500 by 2.00% per year for the 20 year period ending September 30th, 2011.
Source: Low & Slow Could Win the Race, page 3

Conclusion

Procter & Gamble appears to be slightly overvalued at this time. The company's consumer product brands have provided stable cash flows. Procter & Gamble is a shareholder friendly company that has rewarded shareholders with a rising dividend and share repurchases. Procter & Gamble is a slow growing company with strong cash flows suitable for defensive investors.

Source: Procter & Gamble: Stable Growth Or Risky Gamble?