- One of the most profitable brands of P&G - Pampers - has ample runway for growth in economies such as India and China. The new line of Pampers was launched in China this month
- Expect to see more innovation on its premium brands. The company has decided to dominate market share with focus on its key products, so advertising will likely stay highly elevated
- The dividend pay-out ratio is slightly high but there is no risk, whatsoever, to the dividend. The yield has never been higher in a decade, making now a good time to double down on the stock.
It isn't very often when true dividend aristocrats are on sale but Procter & Gamble (P&G) (NYSE:PG) has had a horrid time of late with its share price down 20% in the year to date, or $20 a share in lay man terms. However, the company with a current market cap of almost $200 billion and with annual sales projected to cross $76 billion this year, this company isn't going anywhere any time soon.
Its problem has been sales growth which declined, again, by 5% in fiscal 2015. Revenue growth, in recent times, has been affected by slowing growth rates around the world, a stronger US dollar and probably competitive pricing. These short term headwinds may very well continue, but I feel that good will definitely come from its $10 billion cost cutting plan which should make the company leaner and more nimble in the market-place.
This company is getting smaller (in the short term) to ultimately grow much faster in the long term. For example, huge investment has been going into its supply chain and innovation programs which will definitely bear fruit going forward. Inventory turnover ratios are improving which show that the investments in this area is working. Sometimes investors have to look beyond earnings and see what the company is doing with capital expenditure. There is always a lag between smart capex investment and more profitable earnings. I believe this company will return to revenue growth which is why now would be a good time to double down on this stock. Furthermore the yield, currently at 3.7%, has rarely been higher.
So how is the company going to grow from here? Well, firstly the current streamlining of its product base is the correct decision in my point of view. Selling off low margin divisions to concentrate on its more profitable products is both a prudent and brave move as revenues were always going to suffer in the short term. Moreover the 65 brands it will hold onto currently account for 90% of turnover and 95% of profits so the 100 brands that will be divested won't affect the bottom line all that much. The proceeds of the divestitures can then be used to grow sales from more profitable brands like Pampers, which has growing at a 5% clip for the last 3 years. Expect to see even more advertising and marketing efforts on its core products such as Pampers to increase market share in those segments. Also, huge amounts of time can now be focused on innovating existing products (65 products down from 165) which definitely should bring better products and updates to market much sooner than before. In fact, its new Pampers pants are being launched at the moment which should boost revenues in this division.
Another gripe that P&G bears have is with regard to diversification. They feel that the company became a powerhouse by increasing its product base consistently over time which helped stabilize margins across the whole product spectrum. I just don't buy that argument. This company is still hugely diversified as it supplies products across multiple categories ( fabric care, grooming, baby care, etc.). Furthermore, Pampers, one of the company's most successful brands ($10 billion+ in annual sales) is in its infancy in China & India where disposable nappies are still only catching on in some areas. There is ample growth for the company to grow its sales in international markets as market share for even its most popular brands (including Gillette, Charmin, Tide) is still low on a global scale.
The company is definitely adopting Plato's 80/20 rule in that it wants to generate a laser-type focus on its core products to maximize market share in those segments. Investors also shouldn't forget that manufacturers like P&G are critical to retailers, in that P&G's products are tried and trusted. Furthermore, the more the company increases the market share for its core products internationally, one would feel that the cost price of the products would come down, which would again enable the company to both keep and grow market share going forward.
In terms of taking care of shareholders, the company has few peers. The company is currently paying out a dividend yield of 3.65%, and has grown its dividend pay-out for the past 59 years despite having very high pay-out ratios on occasions. Furthermore, its current ratio is 1.0 (Assets/Liabilities) which illustrates strong financial strength. Many dividend aristocrats keep increasing their dividends because the majority of the shareholders are dividend investors. Also, the yield has never been higher in a decade (see chart) which make this an excellent entry point. On the capital return side, the company has committed to return a huge $70 billion to shareholders (dividends and share repurchases) over the next 4 years. Cash realized from recent divestitures (Duracell & Coty) will be used to fund this commitment which should boost EPS and, by corollary, the Procter and Gamble stock price too.
To sum up, I think it is worth doubling down on Procter and Gamble stock. The company will likely continue to increase its dividend and I believe the company will have a renewed focus once the company has been divested of unwanted brands. More focused innovation, a weaker dollar and supply chain improvements all have the potential to get this company back to strong revenue growth. Long Procter and Gamble stock from here.