Below are excerpts from our 13-page report on the Consumer Staples sector, with a focus on Energizer Holdings (NYSE:ENR). Energizer has exposure to zinc, steel and silver prices.
The debt-to-capitalization ratio here is a bit high at 45%, but that will come down significantly over the next few years. We expect EPS to hit $9.00 by 2014-2015 and would attach a 10X multiple to that figure in order to arrive at our $90 price target for 2012-2013.
ENR's market cap is $5 billion, and it competes with Procter & Gamble (NYSE:PG) ($183 billion), and Spectrum Brands (NYSE:SPB) ($1.7 billion). It is difficult for value investors to find attractive names in the consumer staples sector, because there are only 100 names to choose from with market caps > $200 million and one-third of those names are trading at more than 20X (ttm) earnings … one-third have not grown revenues since 2006 … one-quarter of the names are highly leveraged with long term debt-to-capital > 50% … we could go on, but you get the point. When you run screens on this small group, most of the names drop out. ENR is now trading at less than 12X estimates for next year versus 15X for PG and 14X for SPB.
Acquisitions, Organic and Inorganic Expansion of Personal Care Portfolio as a Hedge against the Secular Downward Trend in Batteries
Energizer made its foray into personal care in 2003 with the acquisition of Schick-Wilkinson Sword shaving razor business from Pfizer (NYSE:PFE) and continually expanded its personal care brand portfolio since then. This was followed on by the Playtex acquisition in 2007, which brought in the Playtex feminine care (tampons and cleansing cloths) and baby care (diapers) brands, and Banana Boat (Sunscreen lotion) & Hawaiian Tropic (tanning lotions) brands into the mix. The acquisition of Edge and Skintimate shaving gel brands in 2009 helped the company expand and consolidate its wet shave business. The American Safety Razor acquisition in 2010 helped Energizer to further expand its wet shave razors and blade portfolio into the private label segment and get a larger shelf share on the aisle. With consumers trading down, private label store brands are a growing segment. In 2010, Energizer executed a significant and successful organic expansion of its wet shave business with the introduction of Schick Hydro for both razors and shave prep gels. From a pure battery play, since the company’s foray into personal care in 2003, the revenue dependence on batteries has steadily come down to the present level at around 50%.
Leading Global Brands in Batteries and in Multiple Personal Care Product Categories
Energizer enjoys # 1 or # 2 market share in several brand categories in both batteries and personal care products. ENR’s Energizer and Eveready brands are # 1 in market share globally (35%), with P&G’s Duracell a very close second. Schick Wilkinson Sword is # 2 globally, next only to P&G’s Gillette. In the U.S., in men’s R&B (Razors & Blade), SWS is showing a ~14% market share. In Europe, SWS has a double-digit market share including 21% in France. Schick enjoys a 57% market share in Japan. American Safety Razor (NYSE:ASR) is # 1 in Private Labels globally with 70% market-share. Energizer has 32% U.S. market share in male shave preparation (Edge and Hydro shave gel) and 66% in female shave preparation (Skintimate shave gel). Banana Boat and Hawaiian Tropic are # 1 in U.S. market share with 26% in FY2010 in sunscreen and tanning lotions. In Playtex infant care products, Energizer has 26% U.S. market share. In feminine hygiene care, Playtex Tampon is # 2 with 22% market share.
Comfortable Liquidity -- A steady operational cash flow and a comfortable debt maturity profile ensure comfortable liquidity. The company is expected to have adequate financial latitude to fund its share repurchase program, its capex needs and small- to medium-sized opportunistic acquisitions. We expect FY11 operational cash-flow to dip down to ~ $300 million, primarily due to significant restructuring charges, before coming back up to ~ $500 million in FY12 and FY13. Cash flow from operations increased significantly by $163.2 million to $652.4 million in FY2010, primarily contributed by longer supplier credits and a higher net income level. At the end of FY10, the company’s debt, net of cash and cash equivalents, saw a sharp decline (improvement) to $1.68 billion from $2.20 billion at the end of FY09. Given the debt maturity profile and the cash on the balance sheet, we project in the medium term, after factoring in moderately aggressive share repurchases and adequate capex, the company is expected to have enough liquidity to fund $1 billion - $2 billion in acquisitions in the medium-term.
Energizer Holdings is a global consumer goods company, incorporated in the year 1999 and based in Missouri. It is one of the prominent manufacturers and marketers of primary batteries, portable lighting and personal care products including skin care, wet shave, infant care and feminine care products. The company originated as the Eveready Battery Company, which in the year 1986 was sold to Ralston Purina. Later in April 2000, Ralston spun-off Eveready, which was then listed as Energizer Holdings, Inc. The company operates through two major segments, household and personal care products. The company was initially recognized for its high-quality batteries. Its popular brands, Energizer and Eveready, are recognized worldwide for quality and dependability. Gradually it diversified into the personal care product industry. Both organic growth and acquisitions led to the expansion of ENR over the last decade. ENR strengthened its business and expanded its product range via major acquisitions including Schick-Wilkinson Sword in 2003, Playtex Products in 2007, Edge Skintimate brands in 2009, and American Safety Razor in 2010. The company established its presence worldwide with the help of its commercial and production operations in 49 countries and distribution in 131 countries. With > 100 years of expertise in the battery and lighting products industry, ENR is positioned as the second largest manufacturer of household batteries in the U.S.
The company recorded net sales of $4.25 billion in FY10 with a growth rate of ~ 6% as compared to FY09. The increase in net sales was mainly due to the launch of a significant new product; Schick Hydro in Q3, 2010 and full-year ownership of the Edge and Skintimate shave preparation brands. The company generated net sales of $1.04 billion in Q2, 2011 with a $100 million increase on a y/y basis. The surge in net sales was driven by the acquisition of American Safety Razor and launch of Hydro, which were partially offset by the sales decline in Household Products and Feminine Care. ENR has diversified its business geographically -- the U.S. market accounts for 51.7% of revenues, with the remaining 48.3% coming from international markets in FY10. The battery and wet shave industries are highly competitive both in the U.S. and in international markets. Wal-Mart is the largest customer of the company accounting for approximately 20.1% of net sales in FY10. The major competitors of the company are Procter & Gamble’s Duracell and Spectrum Brands in the battery business, and P&G’s Gillette in the wet shave business.
Secular Downward Trend in Batteries and Weak Revenue from Feminine Hygiene Care -- A shift in the mix of household appliances and devices resulted in an irreversible downward trend in battery demand. Despite volume growth in certain geographies, revenue realization per unit has come down because of packet upsizing. However, the company has started reverse packet upsizing since Mar-2011 and expects per unit realization to improve during the remainder of the current fiscal. Energizer, however, is rationalizing its battery manufacturing capacity by shutting down one carbon zinc battery manufacturing facility in the Philippines and another alkaline battery manufacturing facility in Switzerland with an expected cost savings of $25 million - $35 million by 2012. Feminine hygiene care business has also been weak. Slow moving batteries and feminine hygiene care, together contributing ~ 43% of Energizer’s revenue, is a heavy drag on the company and offsets the growth in its well-performing businesses, including wet shave, sun screen care and infant care.
Household Products -- The Household Product Division is engaged in manufacturing and marketing a broad range of products, including household batteries, portable lighting products and specialty batteries. The company uses carbon-zinc, alkaline and lithium technologies in the batteries which are sold under the universally known Energizer and Eveready brands. The segment achieved net sales of $2.2 billion in FY10 with a growth rate of 4% in comparison to last year primarily contributed by higher sales and lower raw material prices. In Q2, 2011, household product revenues declined by 4% y/y to $424.9 million due to the de-stocking of retail holiday inventory from the prior quarter and the increased trade spending in the U.S. This segment is highly vulnerable to seasonal changes with maximum sales occurring during the December holiday season and increase in inventories during autumn.
In order to improve utilization and realize cost savings, ENR announced restructuring of operations in November, 2010. The current restructuring program will lead to a reduction of an additional 400 employees resulting in cost savings of $25 million - $35 million by the end of FY12. ENR determined that by the end of Q3, 2011, it will cease production at its carbon zinc battery manufacturing facility in Cebu, Philippines and the alkaline battery manufacturing facility in La Chaux De Fonds, Switzerland. Based on current market conditions, ENR expects unfavorable costs of commodities and raw materials in FY11 primarily due to higher zinc and steel prices. Due to the softening in household battery demand in developed markets like the U.S. and Western Europe, the battery business has been facing challenges. On the other hand, improving economies and increasing demand for household devices in developing and emerging markets offset the pressures in the U.S. and Western Europe. To improve overall growth opportunities, the division has continued to invest in technological initiatives in emerging markets. In order to restore the value of the business, the company implemented a strategy including price increases in the U.S. for C, D and 9V cell sizes and eliminated U.S. pack upsizing.
Personal Care -- The Personal Care division provides a diversified range of products in the wet shave, skin care, infant care and feminine care businesses. Currently ENR holds the second position in the global market of wet shaving products under the Schick and Wilkinson Sword, Edge and Skintimate brand names. The Feminine Care and Infant Care products are manufactured and distributed under the brand names Playtex and Diaper Genie. In addition, the company offers skin care products including sun care products under the brand names Playtex, Banana Boat, Wet Ones and Hawaiian Tropic. The major markets for wet shave products are the U.S., Japan, Canada and Western Europe which together account for approximately 20% market share.
The Personal Care segment sales for FY10 increased 8% to $2.0 billion primarily driven by the launch of Schick Hydro and full year ownership of Edge and Skintimate. In Q2, 2011 the company’s net sales rose by 24% on a y/y basis to $610.4 million. These strong results reflected the acquisition of American Safety Razor (ASR). Higher shipments of Wet Ones and positive prior season sun care returns adjustments partially offset by the lower volumes due to timing of shipments were reflected by the 10% rise in Skin Care sales in Q2, 2011. Infant Care sales declined by 1% due to low sales of cups and bottles; partially offset by higher Diaper Genie sales.
The lower sale of Gentle Glide was the primary reason behind the 12% decline in Feminine Care sales. The acquisition of Schick Wilkinson Sword in 2003 positioned ENR favorably in the wet shave market, and it opened up growth opportunities by diversifying beyond batteries, and this became the Personal Care segment. ENR diversified its portfolio of branded consumer products with the acquisition of Playtex in 2007. The acquisition of Edge and Skintimate in 2009 strengthened its shaving business by adding U.S. market leading wet shave products to its extensive portfolio. In 2010, ENR incorporated new technologies in wet shaving by a launching the revolutionary Schick Hydro.
Acquisition Strategy -- Acquisitions have played a pivotal role in boosting growth at ENR over the years. There has been impressive, strategic expansion by the company, organically and inorganically. Initially, ENR was a battery and lighting products company, but has during the last decade grown by diversifying into the personal care product sector. By the inorganic form of growth, ENR is able to expand its business at a rapid rate while maintaining superior product quality. Energizer has tried to align with its competitors by acquiring companies which have already developed innovative technologies. The drive began in March 2003, when Energizer acquired the Schick Wilkinson Sword business from Pfizer. SWS was the second largest manufacturer and marketer of men’s and women’s wet shave products in the world; having more than 75 years of history in the shaving products industry. This acquisition had set the tone for the company in advancing the personal care division.
In October 2007, Energizer acquired Playtex Products, Inc., a leading manufacturer and marketer of popular consumer products in North America, primarily to expand the company’s portfolio of popular brands of consumer products. Moreover, this acquisition added 22% of market share for the company. Furthermore, the company acquired the Edge and Skintimate shave preparation brands from S.C. Johnson in June 2009, which helped the company raise its position in the wet shave product category. With Edge, the # 2 brand in the domestic market for men’s pre-shave products, and Skintimate, the leader in the women’s pre-shave product market, ENR realized its dominant role in the industry by capturing the top market share of 41% in 2010.
ENR acquired the fourth largest manufacturer and distributor in the wet shave business in November 2010 for a cash purchase price of $301 million. ASR is the leading global manufacturer of private label wet razors and blades in the U.S., and was the primary competitor to ENR. With the help of 1,200 employees worldwide, the company operates nine manufacturing and packaging facilities in six countries. The acquisition of ASR strengthened ENR’s shaving business by adding wet shave brand names including Personna, Matrix, Magnum, Solara and GEM. This deal added to the production capacity required to support ENR’s expansion, and thus accelerated growth in developing markets. Through the acquisition of ASR, the company enhanced its product portfolio by the addition of Gen Y, the premium store brand razors. Moreover, the addition of ASR not only expanded its product range to consumers but also enhanced its ability to deliver solutions to retail customers. By broadening the customer base of ENR, this acquisition also helped the company withstand tough competition in the business.
Product Innovation – By adding Banana Boat, Wet Ones, Hawaiian Tropic, Playtex tampons, Playtex gloves, Playtex infant feeding products and Diaper Genie, the company expanded its portfolio for branded consumer products. The launch of the revolutionary Schick Hydro in 2010 created a powerful platform in the wet shave business. The company continued on its path of innovation by developing new products in lighting and portable power markets. ENR, the market leader in lithium and rechargeable batteries, offers the world’s longest lasting AA and AAA battery for high-tech devices. Since very few companies specialize in the manufacture of lithium batteries, the company is able to successfully compete against its rivals.
The introduction of Intuition for women and the Quattro family of products, the first four-bladed shaving products for men and women and Gen Y’s five blade razors, strengthened the company’s wet shave product line. By acquiring Schick Wilkinson Sword in 2003, it diversified its product portfolio. Further the company developed a new Qi-compliant inductive charger for certain smart phones and devices with Qi enabled built-in rechargeable batteries for the convenience of customers. In support of the growth initiatives, ENR increased its research and development expenditures for Q2, 2011 by 12% y/y to $26.3 million. With its mission of innovation and wide spectrum coverage, the company maintains its focus in driving its brand equity.
Promising Sun Care Business
With the acquisition of Playtex in 2007, ENR established its sun care business under the brand names Banana Boat and Hawaiian Tropic. The company renewed its concentration on scents, packaging and formulation and thus benefitted the sun care business. The demands for sun care products are highly seasonal due to higher sales during late winter through mid-summer. With international sales growth of 26% in FY10, both Banana Boat and Hawaiian Tropic brand sun care products expanded their geographical footprint. The sun care business is very promising with U.S. market share of 26% in FY10. In December 2009, the Banana Boat Brand introduced powerful SPF 85 and SPF 100 sunblock and children’s sunblock products.
Hawaiian Tropic was re-launched in March 2010 with new packaging, formulas, and fragrance accompanied by the brand’s first ever national print campaign. Due to these bold changes, Hawaiian Tropic marked an evolution in the Sun Care business. During 2011, new products coming from the sun care business include family size pumps for Banana Boat and Hawaiian Tropic Shimmer Effects containing mica minerals and higher protection SPFs of 110. With the increasing awareness about the risks of unprotected exposure to the sun, consumer demand for sun care products has increased. It is expected that the continued product innovation and developments will drive Sun Care sales.
Challenges in Dynamic Battery Business
ENR, anchored by the Energizer and Eveready brand names, is the leading manufacturer and distributor of batteries worldwide. The economic downturn and cut throat price competition have hurt the battery business at ENR. The drum beating mascot of ENR was dropped due to declining alkaline battery demand and price wars led by the market leader Procter & Gamble’s Duracell brand. The rapid increase in the demand for devices such as mobile phones, cameras, and portable music players in the developed countries led to the rise in the use of in-built rechargeable batteries. This resulted in the weakening of demand for the primary batteries which in turn adversely impacted the company’s core business. The unfavorable raw material pricing for the battery segment, especially in case of zinc and steel was a huge concern as well.
In Q2 2011, the company’s global battery business remained sluggish and dropped 2% on a dollar basis while in the U.S. the dollar value of the business slumped 7%. The operating margins went down to almost half during the second quarter of FY11 due to promotional activities and other expenses. Promotional activity and battery pack upsizing, where more batteries are sold in one pack, are negatively impacting the revenue and profitability of the battery business. Duracell and Panasonic are the major competitors of the company in South and Central America, Europe and Asia. The company adopted certain initiatives, including implementation of price increases on C, D and 9V sizes and eliminating battery pack upsizing in the U.S. In addition, the company has undertaken restructuring programs in order to streamline the overall cost structure in manufacturing batteries. Further, the company implemented cost cutting measures by consolidating the administrative functions of Western Europe and North America and improving the quality and the productivity in battery manufacturing facilities. Given the challenges faced by the battery business, steps have been taken to reduce capacity in order to simplify the manufacturing and improving the overall cost structure. It remains to be seen whether or not ENR can offset this issue in the battery business. That is the wild card here.
Declining trend in Feminine Care
ENR developed its Personal Care business beyond wet shave products with the acquisition of the feminine care business of Playtex in 2007. Currently Playtex is the second largest tampon selling brand in the U.S. The segment offers feminine hygiene products such as Playtex Gentle Glide, and Playtex Personal Cleansing Cloths. In 2010, the Feminine Care sales fell by 8% primarily due to lower shipments and consumption of Gentle Glide resulting from significant competitive activity. The company has not been able to generate consistent Feminine Care sales growth and has thus failed to maintain its foothold in the category. The product lines of the business face intensive competition from a large number of domestic and foreign companies. Even though the market is characterized by innovation and the introduction of new products, the key advertising and promotional programs negatively impacted the Gentle Glide business. In order to reverse the negative trends in the Feminine Care business, ENR is developing certain plans to implement the new packaging across the entire line; expected by the end of 2011.
A multi-year restructuring program was undertaken in order to combat the declining trend in the battery business and to improve ENR’s competitive position. The company continued the restructuring of its household division which includes battery and lighting products. With the help of the plan the company aims to streamline its manufacturing operations across the globe, improve the administrative operations and accelerate investments for product growth opportunities. This plan is expected to result in pre-tax charges of $65.0 million - $85.0 million in FY11 and cost savings of approximately $25 million - $35 million by FY12.
It is doubtful whether these initiatives will be sufficient enough to battle the challenges faced by the company’s core battery business. As a result of the restructuring program, the company intends to close its carbon zinc battery manufacturing facility in Cebu, Philippines and the alkaline battery manufacturing facility in La Chaux De Fonds (LCF), Switzerland by the end of June 2011. Over the past two years, the company has taken initiatives to reduce the workforce in the household division. We doubt whether this will be the company’s last restructuring effort.
Cost Exposure to Commodity Prices & Currency Play
A significant portion of the company’s raw material costs is US$ denominated, while ~ 50% of the revenue is from outside the U.S. Therefore, a weak U.S. dollar versus the currencies in the company’s market geographies is generally favorable for the company’s margins. For the battery business the bulk of the cost is for commodities including zinc, silver and steel which are dollar denominated. The labor is a relatively minor part of the cost. The overall cost structure is somewhat independent of the supply chain dynamics. With commodity prices hitting multi-year highs, ENR management expects the incremental cost impact to be in the neighborhood of $26 million - $28 million unfavorable y/y. The neutrality of the supply chain dynamics to the cost structure equally holds good for the personal care segment, particularly for razors and blades, where the labor cost is a minor part of the cost structure and the bulk of the raw material cost is US$ denominated.
The company’s revenue is equally dependent on international markets as it is on the United States. In FY10, $2.2 billion or 52% of ENR’s revenue came from the U.S. and the 48% balance ($2.1 billion) came from international markets. ENR has its footprint in the developing markets and it is expected to increase its foothold in the near future. The Personal Care segment has witnessed growth in North America, Japan and Western Europe especially with the Wet Shave business. Canada represented 5.7%, 5.1% and 5.4% of company’s sales in fiscal 2010, 2009 and 2008, respectively. In FY11, the company’s initiative to invest in the emerging markets is pay off in the coming years.
With an elementary and unbiased look at the household products industry in the U.S., it can be predicted that consumer spending as a whole, will be higher in 2011, compared to what it was in 2010. But considering the fact that the projected unemployment rates in the United States in 2011 are fairly high, and the prices of basic requirements like food and gasoline are on the rise, consumers are likely to be rather price-sensitive. The graph to the left shows the trend of unemployment levels in the U.S.
In order for companies to prevent subsidized product suppliers from gaining market share, they must optimize their marketing support, as well as the quality of their product-related innovations. Oftentimes, important labels market store brand products in a bid to capture more market share. The cumulative effect of this competitive market scenario and the significant influence of larger retail brands is that the prices of household products are generally kept in check. Also, as a result of this competition, together with the saturated industry scenario in developed countries, the companies in this sector are continually attempting to capture new and emerging markets. It is expected that the sluggish growth rate in the developed markets will drive more and more multi-nationals to look for growth in developing foreign markets. It is also important to note that rapid economic growth and altering consumer lifestyles in the developing international markets is likely to give drive demand for packaged goods, and therefore allow for adequate growth opportunities for the industry. Product innovation is the key to capturing markets and expanding profit margins for companies engaged in the household products business.
Global consolidation is a promising avenue in retail, since it has the potential to reverse industry trends. It can create possibilities for ‘club’ purchases on the part of larger retailers from manufacturers and distributors. Foreign currency valuation inevitably impacts multi-national companies, but the impact depends on the degree of currency hedging, and which markets the company is supplying to. Another key factor that impacts the industry, are the raw materials necessary for production. These include natural gas, pulp, resin and crude oil. Year-to-date through May 13, the S&P Household Products Index was up 5.5%, compared to a 6.7% rise for the S&P Index. In 2010, the Index advanced 4.4%, versus a 14.2% rise for the S&P.
Razor Market -- Women form the primary consumer base for personal care products, since they not only buy and use these products, but often purchase for their families as well. The one area where male buyers out-number females, is in the shaving products category. With the simultaneous launch of new shaving systems by both Schick and Procter & Gamble in 2010, the marketing strategy for these products seems to be to re-think the act of shaving as more than just the mandatory task of hair removal, and to establish its role as part of a skin care routine the consumer is to embrace. The emphasis here is on the comfort of the user, rather than the closeness of the shave.
Procter & Gamble subsidiary Gillette is doubtlessly the leader in the razor market, and controls an 82.6% market share in the razor cartridge market. It is followed by Schick, owned by Energizer, their market share being 30.2% in razors, and 14.5% in razor cartridges. Sales in the razor division increased 27.5% y/y, with volume up 20.8%, and a 5.6% rise in pricing. In the cartridge category, sales rose 1.8% versus the prior year, volume dropped 5.0%, and pricing went up 7.2%. The growth in the rate of razor sales can be attributed to the simultaneous launch of new shaving systems by Gillette and Schick in 2010. In October 2010, NBTY was purchased by a private company, The Carlyle Group, in a $4 billion cash transaction. In view of their prospective business expansion, Energizer Holdings, Inc. closed their acquisition of American Safety Razor, the fourth largest manufacturer of wet shave products worldwide, with a cash purchase of $301 million.
Innovation is the key growth driver.
The 13 non-durable product categories of the Symphony IRI group that are tracked by S&P did not show private label growth at the same level they posted in 2009. In an overview of the period ended March 20, 2011, it can be noted that while there was share gain in the disposable diaper, food, shampoo and trash bag categories, other private label products - razor blades, toothpaste, toilet tissue, sanitary napkins and tampons, deodorant and disposable training pants showed a decline in market share. The household product business is a competitive one, especially in the U.S., where the population is slow-growing, and the number of households is limited. It is therefore important to focus on product innovation in order to retain consumer interest.
New products with added features and benefits are a way of keeping customers from switching to more affordable, if inferior, private label products. This gives consumers the incentive to pay a little extra for high-end products. The non-durable category of consumer items (consumables) entails products that have a shelf life of up to three years. This category can be sub-divided into household goods, and personal care products. Batteries fall into the former category. The two major market share holders in this area are Duracell (owned by P&G) with 40.2% and Energizer with 38.8%. Although there has been a 6.0% decline in sales, 1.7% in volume, and a 4.4% drop in pricing (in the 52-week period ended March 20, 2011), the category shows promise in the long-run due to the fact that more consumers have come to own battery operated appliances.
Shift in the Market -- Over the last ten years or so, Japan has lost considerable importance in the household non-durable product market, given its stagnant economy and population. However, it continues to account for a portion of the sales, even though it has lost its position as a top ranking market. In 1995, before the Great Hanshin Earthquake, Japan was P&G’s largest market in Asia. Since then it has been over-shadowed by China, which accounts for ~ 6% of the sales, while Japan only accounts for 3%-4% of the company’s total sales in Asia. The Avon Japan business had also flourished at one point, but since it became a financial liability over an extended period of time, the company decided to sell its 74.6% ownership interest to a private equity company. Though the details are undisclosed, Energizer Holdings exports its wet shave products to Japan under the brand names Schick and Wilkinson Sword, and considers the country to be one of its primary markets.
Batteries -- Lithium Ion batteries are widely used in consumer devices, but their usage in the industrial, medical and military markets is fast becoming the focus because of the lucrative prospects they offer. In portable equipment and electrical automotives especially, the lithium ion battery offers endless opportunities. However, the demand from these customers threatens to create a shortage in the market, with the introduction of next generation HEVs and PHEVs. While there is no immediate threat, the rising cost of raw materials, especially metal lithium, is likely to impact the production process. A rise in the price of raw materials for batteries, could hinder the manufacturing process, resulting in a failure to cater to the rising demand for the product in the next 3-5 years. In the case of some of the materials used in the manufacturing of Li-ion batteries, there may be a supply constraint.
These include Cobalt, Graphite, Electrolytes, and Polypropylene film. The metal lithium itself is not expected to experience supply shortages. As the 35th most abundant element on the planet, lithium metal is more common than lead. Lithium carbonate, the primary traded form, is used in a myriad of products including greases, polymers, air conditioning, lithium-aluminum, glasses, and others. Over 80 percent of the global consumption of lithium is made up of uses other than li-ion batteries. Additionally, there has been a recent increase in lithium reserves by key suppliers. More than 80% of the usage of Lithium worldwide does not involve batteries. The given graph (above) compares the demand for lithium ion batteries between 1997 and 2020, and the global production of Lithium Carbonate (based on the U.S. geological survey analysis). Although lithium is no longer mined in the U.S., if the costs of Lithium Carbonate continue to increase, the country may decide to revive production of the material.
The major concern that is likely to impact the manufacture of lithium ion batteries, is that while the lead acid batteries that are currently in use in automotives, has components that can be recycled, the lithium ion battery does not lend itself to recycling quite so easily. The lithium ion battery chemistry requires an exorbitant expense in order for its components to be re-used, which is not particularly viable. With growing environmental concerns, and given that > 99% of automotive starter batteries were reportedly recycled in the U.S. in 2006, this nature of the lithium battery, together with the raw material supply constraints, can hinder the growth of the industry. The two major factors that contribute to the commercial success of battery chemistry, are product safety and the bottom line cost of production. So far, the lithium ion battery has not met the requirements in these categories. The sector is currently under development, contributed to by both major manufacturers, and emerging organizations. Product development is aimed at achieving water-tight safety, and acceptable production cost. Given its viability in automotives and portable high-power equipment, lithium ion batteries have begun penetrating the market with very promising growth opportunities attached to them.
Concerns about the environmental impact of toxic ingredients contained in household products caused a stir in the household cleaning products category in 2010. In response to consumer and regulatory demand for more information about what chemicals consumers are bringing into their homes, many cleaning products manufacturers are revealing more about the ingredients they use in their products. That is a big shift after years of closely guarding their ingredients for fear of revealing trade secrets.
In September 2010, a consortium of non-profit groups sued P&G, Colgate-Palmolive, and other household product manufacturers for failing to submit semi-annual ingredient reports to the New York State Department of Environmental Conservation, as required under a 34-year-old law. The requirement apparently was never enforced. As of March 2011, that Department was still holding hearings on the topic. What happens in NYS could have implications for other states, and perhaps put pressure on Congress to enact national legislation.
Although the law only requires that manufacturers disclose ingredients to the Department of Environmental Conservation, several companies, including Clorox (NYSE:CLX), Johnson & Johnson (NYSE:JNJ), and P&G, began disclosing additional ingredient information on the Internet and through toll-free phone numbers. Clorox, for example, in its popular Green Works line of environmentally friendly cleaners, lists the ingredients on the label. This growing concern about toxicity and cleaning chemicals has helped spur the growth of the green cleaning products category. Mintel, the Chicago-based research firm, projects sales of eco-friendly cleaners to increase to $623 million by 2013 and to account for 30% of the household cleaning products market.
Major Raw Materials
Weak economic data from the U.S. and ongoing fears that debt-laden Greece may be heading toward a credit default, kept risk aversion elevated and conspired to send LME three-month copper lower, down 1.0% at the close at $9,065/ton. As the world's largest economy, economic indicators from the U.S. are closely watched by the base metal markets for demand signals. Concern over debt contagion in the euro zone also pushed the dollar to three-week highs against the euro last week, providing an extra head-wind for the base metals. Like other dollar-denominated commodities, base metal prices appear more expensive when the US$ rises.
The zinc market balance will tighten over the next couple of years, spurring a fresh bull run for the price of the industry-linked metal. According to data released by the International Lead and Zinc Study Group, the refined zinc market was in surplus by 178,000 metric tons in the first four months of 2011 -- an increase on the 166,000-ton surplus in the year-earlier period. Supply after 2012 will be restrained with a number of mines coming towards the end of their shelf life. MMG's Century mine in northwest Queensland, Australia's largest open pit zinc mine, which produces ~ 500,000 tons of the metal annually, is expected to be closed by 2016. After opening the year at $2,430 a metric ton, the price of LME three-month zinc has gradually declined, trading at $2,218 per metric ton during the last week.
Global zinc consumption rebounded dramatically in 2010, following the slump in 2009. Typically, zinc demand is driven by the galvanized steel sector, and this certainly appeared to be the case in 2010, when global galvanized steel production rose by an estimated 25%. However, galvanized steel output growth on a y/y basis slowed in 2010, and a similar trend was evident in the consumption of zinc. The International Lead Zinc Study Group (ILZSG) has just released its latest supply-demand forecasts. In terms of demand, the organization estimates that global zinc consumption increased by 16% in 2010 and forecasts that growth will remain robust in 2011 with expansion placed at 6%, which would take consumption to 13.4 million tons. The recovery in global demand in 2010 was met by a strong rebound in refined zinc production of 14% as concentrate availability and prices improved. This trend of expanding output looks set to continue in 2011, with gains for both mine and refined production. In its latest bi-annual projections, ILZSG is forecasting a 9% increase in mine output and a 5% rise in refined output. China is expected to remain the key driver behind the growth in both mine and refined production.
Silver Market -- The forward curve for silver shows mild backwardation in the near-term to mild contangoed movements in the long-term. This is an indication of the volatile price movements in the price range of silver. As this is one of the critical commodities in the battery manufacturing process, it does not go down well for the industry as a whole. As of 20-Jun-11, silver was trading at $35.40 per ounce. Precious metals as a whole have witnessed southward movement recently, but the downside appears limited (especially for Gold) as the market awaits news regarding the Greek bailout package. As per the U.S. commodity futures trading commission data for the week ended June 14, hedge funds and other large speculators have decreased their net long positions in the New York silver futures market. Net long positions are now near the levels seen in late August 2007, late 2008 and in 2009 – which were all good silver buying opportunities. This shows why the forward curve is in a position of mild backwardation to mild contangoed. Note: Contango is a term used in the futures market to describe an upward sloping forward curve (as in the normal yield curve). Such a forward curve is said to be "in contango" (or sometimes "contangoed").
Investment outlook for household non-durables
Investment positives -- The consumer staples sector in general is resistant to recession; thus, household non-durable companies are less impacted by the ongoing economic showdown. Most of the corporations are large with stable cash flows and are able to withstand economic pressures. The growth prospects from emerging markets will help the global household non-durable companies to grow even as growth in the U.S. stagnates. The burgeoning baby boomer population will help support demand in the domestic market. If interest rates begin to climb, the household non-durable companies will be able to borrow at lower rates due to their lower risk. They are also not that dependent on the debt markets for growth because they have significant free cash flow.
Investment negatives -- If the U.S. dollar strengthens against other currencies, most of the major household non-durable companies will have lower revenue. If the economic rebound we are expecting does not happen and the recession gets worse, then there would be increasing pressure on the profit margins of the household non-durable companies. These companies could also lose market share to private label brands in some categories. Increases in commodity prices might impact margins at household non-durable manufacturers as they may not be able to pass all the cost increases on to customers due to competition with low prices and private label brands.