Procter & Gamble (NYSE:PG) saw its shares buck the trend on Friday, as the market was under continued pressure. While the fourth quarter results were not spectacular, with notably revenues disappointing a bit, investors were pleased with the decision to shed non-core brands in order to reduce costs and become more focused in the future.
With CEO Lafley continuing to make moves to create long term value, investors in the company are in a good position also given the high dividend payouts exceeding 3%. Yet while shares are worthwhile holding onto at this moment given the yield, I would not chase the current momentum. For the long run, shares continue to offer fair value supported by strong brands, modest organic growth and high shareholder payouts.
The End Of The Fiscal Year
Procter & Gamble reported fourth quarter sales of $20.16 billion, a 0.7% decline compared to last year. Analysts were anticipating slight growth with revenues expected to increase towards $20.48 billion.
The company reported a two cent improvement in GAAP earnings towards $0.89 per share. The more closely-followed non-GAAP earnings ratio improved by four cents to $1.02 per share for the past quarter.
Besides these two metrics, Procter & Gamble also publishes a so-called "core" earnings number which improved by 20% to $0.95 per share. Based on this metric, earnings beat consensus estimates by four cents this quarter.
Looking Into The Performance
Despite reporting a modest fall in topline revenues, organic sales were up by 2% which in its turn was the result of higher pricing as volumes were flat. The fall in sales is the result of a 2% headwinds resulting from adverse currency movements and the impact of modest divestitures.
Overall the results were not too shocking. Adjusted for the discontinued pet care operation, gross margins of the business were down by 140 basis points to 48.6% of sales. This was offset by a 160 basis points reduction in selling, general and administrative expenses which fell to 31.8% of sales. As such operating earnings improved by 30 basis points to 16.9% of sales.
In terms of the business segments it was the grooming business which fared the best, posting 7% organic sales growth and 5% overall sales growth. The baby, feminine and family care unit posted a 3% organic growth rate, while the beauty segment saw organic sales drop by 3%.
For the upcoming fiscal year, Procter & Gamble anticipates sales to grow in the low single digits. The company quickly points out that this includes about a one percent headwind related to adverse currency movements.
These headwinds will be most apparent in the anticipated first and second quarter results of the new year. Overall GAAP earnings should grow in the mid-single digits despite the inclusion of $0.20 per share in restructuring charges.
The company ended its fiscal year with $8.6 billion in total cash and equivalents, while having $35.4 billion in debt outstanding which results in a sizable net debt position of about $27 billion.
For this fiscal year, Procter & Gamble has now reported sales of $83.1 billion on which it reported GAAP earnings of $11.6 billion.
With 2.89 billion shares outstanding at the moment, equity in Procter is valued at about $231 billion. This values equity in the business at some 2.8 times annual sales and 20 times annual earnings.
Continued Transformation And Restructuring In Order To Rejuvenate Growth
Procter & Gamble has underperformed in recent years. While revenues rose by a cumulative two-thirds over the past decade, this growth was largely the result of the $57 billion acquisition of Gillette back in 2005.
This acquisition was paid for in shares and despite continued and sizable share repurchases, the outstanding share base currently is about 5% greater than a decade ago. This results in revenues per share to have grown by just 4% or so per year over this entire time period.
The company has increased earnings from about $6 billion in 2004 to $11.6 billion this year, but earnings remain far below their 2009 peak at $13.4 billion. To reinstate earnings growth and surpass 2009's results, the company is cutting costs and has announced the simplification of the business. After divesting the pet care business last year, the company now announced the plans to divest about 100 non-core brands. After this move, the company aims to focus on some 70-80 core brands.
This came after the 2012 announced plan to cut management layers, reduce overhead and marketing costs in particular. The $3.5 billion costing restructuring plan which has a duration of five years should save the company some $10 billion between 2012 and 2017.
While the earnings were largely in line with expectations, sales fell short as volumes were flat. This is quite a disappointment, but is the result of difficult circumstances while the company is boosting earnings by cutting back on marketing expenses, among others.
The wide range of activities results in not enough focus and second-tier brands which makes it harder to compete. As such, investors send shares higher on the simplification of the business, with the company expected to sell or spin-off more than half of its brands. The tough competition, and challenging economy makes this move necessary.
For now shares trade at 20 times earnings, while the net debt position is equal to about 2.5 times net earnings. This is not disastrous and the debt load is very manageable, yet it does not leave much room for strategic maneuvers without issuing shares.
The increase leverage is partially the result of the company's intentions to continue to return cash to investors during these transition years. For the past year, Procter has repurchased $6 billion worth of shares, while paying out a 3.2% dividend yield, costing the company another $7 billion. Combined these payouts exceed annual earnings, by a comfortable margin thereby adding to the current debt load.
Last month I checked upon Procter's prospects following a downgrade by analysts at Wells Fargo. I concluded that there was no reason to be worried amidst high shareholder payouts and CEO Lafley's progress on the 2016 targets while analysts worried about increased competition. In the scenario of further cost cuts, Lafley should be able to report earnings of $13-$14 billion by 2016, resulting in a price earnings ratio of about 16 times.
As the company might shed assets by the time, these goals might no longer be attainable. Yet if proceeds can be used to shrink the shareholder base by at a greater pace than the business shrinks, it could still be very profitable for investors.
Given Friday's momentum in the wake of the results, I am not chasing the bandwagon to buy. Rather I would wait before considering initiating a position for the long run. The dividend and strong brands are very appealing, as is management's commitment to deliver shareholder value. In the $70-$75 region you can count on me as a buyer.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.