On the face of it, P&G (NYSE: PG) looks like a very appealing dividend stock. That's because it has a yield of 3.2% and with the S&P 500's yield being little over 2% right now, that makes P&G a significantly better yield play than many of its index peers.
However, we think that P&G has the potential to become an even better income play moving forward and that there is much more to its dividend appeal than a relatively high yield. In fact, we believe that there are a number of key catalysts which are set to push P&G's profitability, dividends and share price higher.
For starters, P&G is now a much better business than it was a handful of years ago and we think this will help to drive its profitability and share price higher. The company has undergone a significant restructuring and while there is still work to do on this front, we believe that transitioning the business into 10 key areas is a sound move. That's because those areas offer the best risk/reward ratio in our view in terms of long term sustainable growth and by adopting this new organisational structure, P&G should become a more efficient business moving forward. We feel that this will have a positive impact on investor sentiment and should push P&G's share price higher, with asset disposals and greater efficiencies also boosting profitability, too.
Furthermore, P&G should benefit from a weakening US dollar over the coming months, which could provide its bottom line with a significant turbo boost. Since P&G is very much focused on expanding into emerging markets outside of the US, foreign sales have become a key part of its revenue mix. In fact, in 2015 financial year, a stronger dollar cut P&G's EPS by $1.5bn and with the Federal Reserve being more dovish than expected, a weakening of the dollar could provide a turbo boost to P&G's earnings and act as a positive catalyst on its share price.
In addition, we feel that P&G is adopting the right strategy through which to improve sales, margins and profitability. It is focusing on product innovation and while this can cause a drain on cash resources in the short run due to the R&D expense, in the long run we believe that it could boost dividends and the company's share price. For example, P&G is seeking to add value in customers' lives through new products such as the Oral-B Genius toothbrush and Pampers Premium Care Pants and more of the same should act as a positive catalyst on the company's top and bottom lines moving forward.
One effect of product innovation could be to improve P&G's pricing potential. We think this is crucial to the company's long term future since volume growth was negative 1% in the 2015 financial year. As such, by innovating and adding more value to its customers' lives, P&G may be able to charge a higher price and expand sales and profitability that way. That's because with increasing innovation could come greater customer loyalty, with customers willing to pay a higher price for the added value provided.
And while volume growth last year was disappointing, we feel that the company's reorganization and updated strategy should help to boost volumes moving forward, as well as having a positive impact upon investor sentiment and the company's share price. Therefore, while further volume declines cannot be ruled out in the short run and are a risk to the company's future performance, we feel confident in the ability of P&G's strategy to overcome such challenges.
With P&G trading on an EV/EBITDA ratio of 13 and a forward P/E ratio of 20.2, the prospects for a major upward rerating may be somewhat limited. That's especially the case while the S&P 500 trades on a P/E ratio of around 17.4 . But even if an upward rerating does not come along, we're still optimistic about P&G's capital gain and dividend potential. That's because we feel that the company has the right innovative strategy, the scope to benefit from a weakening dollar, a new and more efficient structure, as well as pricing potential, with these being major potential catalysts which could positively impact on the business' profitability. And when this is coupled with a yield of 3.2%, we think that P&G's prospects as a dividend stock in particular are very strong.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.