Seeking Alpha
Long only, deep value, value
Profile| Send Message|
( followers)  

Summary

  • The company plans to revitalize revenue and earnings growth through a strong product lineup and divesting many underperforming existing brands.
  • The company will streamline supply chain operations and use such cost savings to offset input cost inflation.
  • The company will continue to reward shareholders with yearly dividend increases and share buybacks while company initiatives take effect.

Procter & Gamble (NYSE:PG) has struggled to cut costs and sharpen their focus on the company's largest brands in an effort to revitalize sales and improve profitability. Through such actions, PG seeks to catch up to their faster growing rivals. Catching up to rivals is not easy to accomplish for a company of PG's size. So, the company has decided to retain 70 to 80 of their best performing brands and divest themselves of their remaining underperforming brands. PG shares rose on the day of the company's product divestment announcement.

The company's shares currently yield about 3.2 percent, and the company has a long history of yearly dividend increases and share repurchases. While no stock should be considered a "safe stock" without any risk, PG shares are relatively safe in comparison to many high-profile stocks, and should be strongly considered as a building block of any long-term investor's portfolio. The company is beginning their plans to transform their portfolio of businesses so that in the intermediate and long term, shareholders will benefit.

Background

PG manufactures and sells branded consumer packaged goods. The company operates through the following five divisions: 1) beauty (23 percent of 2013 net sales and 21 percent of net earnings); 2) grooming (9 percent of 2013 net sales and 16 percent of net earnings); 3) health care (11 percent of 2013 net sales and 10 percent of net earnings); 4) fabric care and home care (30 percent of 2013 net sales and 27 percent of net earnings); and 5) baby, feminine and family care (26 percent of 2013 net sales and 26 percent of net earnings). PG's products are sold in more than 180 countries. In fiscal year 2013 (June), the U.S. and Canada accounted for 39 percent of total sales, Western Europe 18 percent, Asia 18 percent, Latin America 10 percent, and other geographic areas 15 percent. PG's customers include mass merchandisers, grocery stores, membership club stores and drug stores. PG has 25 brands that each generate over $1 billion in sales, including Olay, Pantene, Braun, Gillette, Crest, Oral-B, Vicks, Dawn, Downy, Duracell, Febreze, Tide, Bounty, Charmin and Pampers.

2014 fiscal fourth quarter earnings

PG reported fiscal year 2014 core earnings per share of $4.22, an increase of five percent versus the prior year. Excluding the impact of foreign exchange, currency-neutral core earnings per share increased 14 percent. Diluted net earnings per share were $4.01, an increase of four percent. Organic sales grew three percent. Net sales were $83.1 billion, an increase of one percent versus the prior year, including a negative foreign exchange impact.

For the 2014 fiscal fourth quarter, core earnings per share were $0.95, an increase of 20 percent from the prior year period. Excluding the impact of foreign exchange, currency-neutral core earnings per share increased 25 percent. Diluted net earnings per share were $0.89, an increase of 39 percent. Organic sales grew two percent, including a two-percentage point benefit from pricing. Net sales were $20.2 billion, a decrease of one percent versus the prior year period, including the negative effects of foreign exchange and minor divestitures. The CEO of PG summed up the quarter and fiscal year: "We met our objectives in a very difficult operating environment, delivered strong constant currency earnings growth, and built on our strong track record of cash returns to shareholders. Still, we have more work to do to deliver the profitable sales growth and strong cash productivity we are capable of delivering. We will discuss our going-forward strategy and plans to further strengthen our results during our earnings call this morning."

PG repurchased $6.0 billion of common stock and returned $6.9 billion of cash to shareholders as dividends. PG also announced a seven percent increase to the quarterly dividend in April, making the increase the 58th consecutive year of dividend increases.

PG expects organic sales growth in the low-to-mid single digit range in fiscal year 2015. Net sales growth is expected to be in the low single digit range, including a negative one- point impact from foreign exchange. Core earnings per share are forecast to grow in the range of mid-single digits for the fiscal year. GAAP diluted net earnings per share are also expected to grow in the range of mid-single digits, including approximately $0.20 per share of non-core restructuring charges.

During the earnings conference call, the CEO of PG announced the company's strategic initiative to reduce the number of PG's products:

"Today, we are announcing an important strategic step forward that will significantly streamline and simplify the company's business and brand portfolio. We will become a much more focused, much more streamlined company of 70 to 80 brands organized into about a dozen business units and the four focused industry sectors. …

Why this significant strategic where to play change in brand portfolio? These core 70 to 80 brands are consumer preferred and customer supported. These brands are for the most part leaders in their industry category or segment, 23 with sales of $1 billion to $10 billion, another 14 with sales of $0.5 billion to $1 billion, and the remainder 30 to 40 with strong brand equities in sales of $100 million to $500 million. These brands are all well positioned with consumers and customers and well-positioned competitively. These brands have strong equities in differentiated products and a track record of growth and value creation driven by product innovation and brand preference. These brands are core strategic and have very real potential to grow and deliver meaningful value creation.

Over the last three years, the 70 to 80 brand portfolio has accounted for 90% of company sales and over 95% of profit. … This new streamlined P&G should continue to grow faster and more sustainably and reliably create more value. Importantly, this will be a much simpler, much less complex company of leading brands that's easier to manage and operate. … We will harvest, partner, discontinue or divest the balance 90 to 100 brands. In aggregate, sales of these brands, has been declining 3% per year over the past three years. Profits have been declining 16%."

Plans to divest up to 100 underperforming brands

Subsequent to PG's brand simplification announcement, PG began working with advisors to review up to 100 underperforming brands for potential divestiture. While PG has not yet determined which brands they will divest, Duracell batteries and Braun shavers are the two largest assets likely to be divested. PG will consider selling more than half of their brands whose sales have been declining for the past three years, a significant attempt to revive growth and save costs. The brands being reviewed for divestment are estimated to have roughly $900 million in earnings before interest, tax, depreciation and amortization (EBITDA) combined. Several private equity firms have already started exploring potential deals involving various PG brands. PG's plan to divest themselves of underperforming brands is a major strategy shift for the consumer products giant, whose revenue growth has been sluggish, with sales missing Wall Street's estimates in nine of the last 13 quarters.

PG's product portfolio review also reflects a wider trend among conglomerates across various industry sectors to streamline their business lines, by shedding non-core operations and allocating resources to high growth areas. PG indicated that they have been hurt by "choppy" growth in developed markets, tough competition and a strengthening U.S. dollar. The company has sought to cut expenses by streamlining management, reducing costs and cutting jobs under a five-year, $10 billion restructuring plan announced in 2012.

Competitors

Companies in the household products industry engage in the manufacture of non-durable consumer goods such as cleaning products, detergents, disinfectants, brooms, mops, towels, rags, disposable plates, and cutlery. The industry is mature, slow-growing, and price competitive. Major competitors include Colgate-Palmolive (NYSE:CL), Kimberly-Clark (NYSE:KMB), Clorox (NYSE:CLX), and Energizer (NYSE:ENR). Demand is driven by population growth and consumer preferences. Individual company profit depends on product innovation, effective sales and marketing, and efficient operations. Large companies have size advantages in purchasing, manufacturing, distribution, and marketing, and smaller companies compete using specialization and niche product offerings. Also, increasing retail consolidation in developed markets, which puts price pressure on various manufacturers.

Analysts' views and our views

Many analysts concluded that PG's latest reported quarterly financial results were mixed, but recognized some positive catalysts in such results. Analysts expect PG will benefit from an increased focus on their strongest brands, new product introductions and growth in new markets and categories, which should reverse slight recent global market share losses. During PG's latest earnings conference call, PG's management announced a new strategy for the company where they will dispose of 90 to 100 non-core brands over the next 1 to 2 years. Analysts expect such disposals will be slightly dilutive but they will allow the company to focus their investments more effectively, and should reduce complexity. PG's ongoing business will be focused on 70 to 80 brands across 12 units and should deliver additional savings over and above the $10 billion savings already identified. Analysts recognize that while PG's announced changes seek to allow for more consistent top and bottom line growth, the financial impact will take time to materialize as PG's fiscal year 15 guidance implies no meaningful improvement in performance versus fiscal year 2014 (although PG's outlook may turn out to be a somewhat conservative outlook). That said, PG's plans are positive changes, and should be welcomed by investors. The majority of analysts opinions are mixed between "hold" and "buy" with price targets ranging from $80 to $90.

We generally agree with analysts' conclusions regarding PG's shares. The current price to earnings ratio for PG shares is about 22.2 and the shares yield 3.2 percent. In addition, the company has a long history of substantially raising their dividends in addition to the company's substantial share buyback activity. PG's forward price to earnings ratio is 18.60 based on 2015 earnings estimates of $4.46 and 19.40 based on 2016 earnings estimates of $4.81. Since the company's product-divestment announcement, PG shares have run up from the upper $70s and lower $80s to the current price. That said, with overall markets at or near record highs an investor should wait for PG's share price to pull back to a range of $80.25 to $82.50 to establish a full position. (a forward price to earnings ratio in the range of 18 to 18.50 based on fiscal year 2015 estimates). Even though PG is currently struggling, the company is a profitable marketing powerhouse of iconic brands that will reward investors even if they purchase the shares at the current price for a long-term position. Finally, we should note that PG's shares have seen extensive insider selling with one purchase in recent years.

Source: Procter & Gamble: A Product Transformation Play And Increasing Dividends