Colgate-Palmolive Company (NYSE:CL) markets consumer products in over 200 countries and territories. The Company manages its business in two product segments: Oral, Personal and Home Care, and Pet Nutrition. The Oral, Personal and Home Care segment is operated through four operating segments: North America, Latin America, Europe/South Pacific and Greater Asia/Africa, all of which sell to a variety of retail and wholesale customers and distributors. During the year ended December 31, 2010, the revenues of Oral, Personal and Home Care products accounted for 43%, 22% and 22%, respectively, of its total revenues. During 2010, the revenues of Pet Nutrition products accounted for 13% of the Company's total revenues. In June 2011, it purchased Sanex personal care brand from Unilever PLC. Colgate-Palmolive is a dividend aristocrat that has raised its dividend for 48 consecutive years.
A 10-year summary of Sales, Earnings Before Interest and Tax (EBIT), Earnings per share (EPS), yearly high and low stock price, corresponding high and low P/E (calculated by dividing the high and low price by the EPS for the year), and average P/E (average of high and low P/E) is shown below.
Key 10-year data for Colgate-Palmolive
Year |
Sales (in Billions) |
EBIT (in Billions) |
EPS |
High Price |
Low Price |
High P/E |
Low P/E |
Average P/E |
2011 |
16.73 |
3.79 |
4.94 |
94.9 |
74.9 |
19.2 |
15.2 |
17.2 |
2010 |
15.56 |
3.43 |
4.31 |
85.9 |
74.2 |
19.9 |
17.2 |
18.6 |
2009 |
15.33 |
3.54 |
4.37 |
85.3 |
56 |
19.5 |
12.8 |
16.2 |
2008 |
15.33 |
3.01 |
3.66 |
80 |
55.9 |
21.9 |
15.3 |
18.6 |
2007 |
13.79 |
2.56 |
3.19 |
80.7 |
64.8 |
25.3 |
20.3 |
22.8 |
2006 |
12.24 |
2 |
2.46 |
60 |
53.7 |
24.4 |
21.8 |
23.1 |
2005 |
11.4 |
2.08 |
2.43 |
56 |
48.6 |
23.0 |
20.0 |
21.5 |
2004 |
10.58 |
2 |
2.33 |
58.4 |
43.9 |
25.1 |
18.8 |
22.0 |
2003 |
9.9 |
2.04 |
2.46 |
60 |
49.1 |
24.4 |
20.0 |
22.2 |
2002 |
9.29 |
1.87 |
2.19 |
58.8 |
44.3 |
26.8 |
20.2 |
23.5 |
From these data, we can plot Sales, EBIT, and EPS versus Year, as shown in the chart below.
Sales (in Billions), EBIT (in Billions), and EPS versus Year for Colgate-Palmolive, 2002-2011
As evident from the chart above, CL has demonstrated quite predictable sales and earnings over the past 10 years, allowing us to predict EPS in the near future, say in five years (i.e. Year 2016), using the linear regression equation for EPS = 0.3171 (2016) - 633.01 = 6.2636.
A conservative average P/E estimate for the stock can be obtained as follows:
Signature P/E: A well established stock has a signature P/E, an average P/E it commands in the market based on its business. We calculate this by averaging the Average P/E over the past 10 years, excluding any outliers (data points that fall significantly beyond the other data points). There are no significant outliers, so we average the Average P/Es from the past 10 years to arrive at a signature P/E of 20.6.
High P/E estimate: a conservative high P/E estimate can be calculated by averaging the five lowest High P/Es of the 10 High P/Es from the past 10 years. Averaging the 5 lowest High P/Es from the past 10 years gives 20.7.
Low P/E estimate: a conservative low P/E estimate can be calculated by averaging the five lowest Low P/Es of the 10 High P/Es from the past 10 years. Averaging the 5 lowest Low P/Es from the past 10 years gives 15.9.
Average P/E estimate: this takes the average of the High P/E estimate and the Low P/E estimate, as calculated above, to give a conservative estimate of an average P/E for the stock we can expect. Averaging 20.6 and 15.9 gives us 18.29.
Target Price
Multiplying our EPS projection for 5 years hence by the average P/E estimate gives us a projected average price for the stock: $6.2636 * 18.29 = $114.54, which represents an annual stock price return of 6.2% from the current price = $90. When we add in the 2.6% dividend yield, the total return expected is an annualized 8.8%, which means an investment in CL today is expected to double in about 8 years.
Given a beta = 0.44 for CL, a risk-free rate = 2% (using the yield on 10-year Treasury bond as a benchmark), and estimated risk premium of about 5% for the general stock market, we have a discount rate = 2% + 0.44*(5%) = 4.2%. Applying this discount rate of 4.2%, our projected price of $114.54 in 5 years translates to a target price = $93 in today's dollars, which is about the same as the current price of $90 for the stock, suggesting the stock is fairly priced right now. For a good margin of safety, investors are well advised to buy only if the current price is at least 20% below the target price, which means a buy price of $75.
Market Expectation
What is the market's expectation of CL's growth rate given its current market price = $90? Since stock price = dividend * (1 + growth rate) / (discount rate - growth rate), we have growth rate = ((stock price) * (discount rate) - dividend) / (stock price + dividend). Plugging in stock price = $90, dividend rate = $2.32, and discount rate = 4.2%, we get growth rate = 1.6%. This seems low, given that CL has grown its revenue by 6.5%, its earnings by 13%, and its dividend by 13% annually over the past 5 years. While the growth rate is supposed to slow down a bit as a company matures, an implied market expected growth rate of 1.6% suggests that the stock is currently undervalued. The caveat here, however, is that the discount rate of 4.2% is historically low due to the current low interest rates, in addition to low beta for the stock. As interest rates go up, the discount rate would increase accordingly.
Current P/E Compared With Signature P/E
As an additional consideration, we should also determine how the stock's current P/E compares with its signature P/E, since established stocks tend to revert back to their respective signature P/Es over the long term. The current EPS = 4.94, giving us a current P/E = 18.2. This is about 89% of the stock's signature P/E of 20.6, again suggesting the stock is fairly price right now. To provide some margin for error, we should look to buy when the current P/E is 80% or less of the stock's signature P/E, which means a buy price around $81.
Colgate-Palmolive's P/E Compared With Competitors' P/Es
It is helpful also to compare Colgate-Palmolive's valuations with those of its peers/competitors in the consumer products industry. Current P/E and forward P/E are tabulated below for the company and its competitors.
Stock |
Current P/E |
Forward P/E |
Colgate-Palmolive (CL) |
17.74 |
15.02 |
Church & Dwight Co (NYSE:CHD) |
22.41 |
18.69 |
Clorox (NYSE:CLX) |
32.8 |
15.36 |
Procter & Gamble (NYSE:PG) |
16.03 |
13.91 |
Unilever (NYSE:UN) |
20.86 |
14.51 |
Mean |
21.968 |
15.498 |
Median |
20.86 |
15.02 |
Looking at current P/E, Colgate-Palmolive is relatively undervalued compared to its peers; looking at forward P/E, it appears fairly valued compared to its peers. Church & Dwight Co and Clorox appear overvalued on both measures. In contrast, Procter & Gamble appears undervalued on both measures and is probably a better buy.
Risk Index
Lastly, we calculate the Risk Index, calculated as (Current Price - Forecast Low Price)/ (Potential High Price - Forecast Low Price) to give an estimate of the risk: reward ratio. Risk index less than 20% is desired, which gives us +200% potential returns for every risk of 50% loss we assume.
The Forecast Low Price is calculated by multiplying the Low P/E estimate by the Forecast Low EPS, to give a conservative estimate of low price for the stock in 5 years, assuming zero EPS growth and low valuation. Forecast Low EPS is estimated by averaging the EPS over the past 5 years. For growth stocks with predictable earnings growth, EPS in 5 years should not be any lower than this conservative estimate. For CL, the forecast low EPS is equal to 4.094, so the Forecast Low Price = 15.9 * 4.094 = $64.94.
The Potential High Price is calculated by multiplying the High P/E estimate by the projected EPS in 5 years, giving us a price target in 5 years should the stock command a high P/E. For CL, this equals 20.7 * 6.2636 = $129.74.
Thus, the Risk Index = ($90 - $64.94) / ($129.74 - $64.94) = 39%. Since this is significantly greater than 20%, the stock has an unfavorable reward to risk ratio at the current price. A pullback to $78 would give a risk index less than 20%.
Conclusion
Colgate-Palmolive Company, currently selling around $90, has a target price = $93, suggesting the stock is fairly valued. Its current P/E of 18.2 is in line with its historic P/E of 20.6, and its downside risk outweighs its upside potential. Nevertheless, at the current price, the stock is expected to return 8.8% a year. Therefore, I rate the stock a HOLD at the current price. A pullback to $75 would provide conservative investors adequate margin of safety to buy as a long term investment.
Use this information as a starting point for your own due diligence, before buying any stock. If you do buy, be sure to read any annual reports (10-K) and quarterly reports (10-Q) to ensure that the fundamentals remain good and the stock is on target to reach its projected price. After holding for five years, repeat the analysis detailed in the article to decide whether to continue to hold, add, or reduce your position.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.