Over the last 12 months, while Clorox (NYSE:CLX) and Procter & Gamble (NYSE:PG) depreciated by 3.3% and 5.7%, respectively, Colgate (NYSE:CL) gained by 14.1%. During the same time period, Colgate outperformed the S&P 500 by around 1,130 basis points. In my view, the stock is now overvalued and Clorox and P&G will outperform.
In this article, I will run you through my DCF model on Colgate and then triangulate the result against a review of the fundamentals of Clorox and P&G.
First, let's begin with an assumption about the top-line. Colgate finished FY2011 with $16.7B in revenue, which represented a 7.5% gain off of the preceding year. I model 8.4% per annum growth over the next half decade or so.
Moving onto the cost-side of the equation, there are several items to consider: operating expenses, capital expenditures, and taxes. I model cost of goods sold as 41% of revenue versus 34.7% for SG&A and 3.5 - 3.25% for capex. Taxes are estimated at 32% of adjusted EBIT (ie. excluding non-cash depreciation charges to keep this a pure operating model.)
We then need to subtract out net increases in working capital to get free cash flow. I estimate this figure hovering around 0.5% of revenue over the explicitly projected time period.
Taking a perpetual growth rate of 2.5% and discounting backwards by 10% yields a fair value figure of $78.33, implying that the stock is more than 20% overvalued.
All of this falls within the context of strong operating performance:
We're very pleased with our results for the start of 2012. The solid top line that we saw build through the year last year has continued into the first quarter, with good organic sales growth composed of balanced pricing and volume. And as you'll hear when we go through the divisions, our pricing actions have not suppressed volume or market share. On a global basis, our market shares are up in 8 of 12 categories, and market shares are up nicely in all regions of the world. Our new product launches have met with success, and we have more in the pipeline to continue the momentum.
Despite continued commodity cost pressures, our gross margin increased sequentially from the fourth quarter of 2011 by 50 basis points, as we told you it would.
From a multiples perspective, however, Colgate is fairly expensive. It trades at a respective 19.7x and 16.6x past and forward earnings versus 16.7x and 15.8x for Clorox and 19.8x and 15.2x for P&G.
Consensus estimates forecast Clorox's EPS growing by 3.1% to $4.05 in 2012 and then by 5.4% and 7.3% in the following two years. Assuming a multiple of 17x and a conservative 2013 EPS of $4.24, the stock will hit $72.08, implying 6.6% upside. While the firm may not be attractive in terms of generating high returns, it is nevertheless a safe stock to hedge against domestic uncertainty. It offers an impressive dividend yield of 3.7% and around 70% less volatility than the broader market.
Consensus estimates forecast P&G's EPS declining by 2.3% to $3.86 in 2012 and then growing by 8.5% and 8.4% in the following two years. Assuming a multiple of 17x and a conservative 2013 EPS of $4.15, the stock will hit $70.55 for 11.1% upside. According to NASDAQ, the Street rates the stock a "buy". This optimism is supported by a high dividend yield of 3.5% and a beta of 0.5.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.