What do Bounty, Charmin, Cascade, Crest, DayQuil, Dawn, Gillette, Head & Shoulders, Mr. Clean, Oral-B, Old Spice, Olay, Pantene, Pampers, Tampax, Tide, and Vicks have in common?
Each of those brands (and more) are sold by The Procter & Gamble Company (NYSE:PG).
Perhaps of greater importance, at least to investors, is that consumers are willing to pay a premium price, and have brand loyalty, to those largely iconic names. It is possible that of the thousands of Americans that will read this article, every person has purchased one or more of these brands on a continual basis for years.
That represents a true moat, and that advantage stems in part from management's decision, nearly a decade ago, to sell underperforming brands and focus on the premium products in its portfolio.
For this reason and more, P&G is arguably the best company in the Household Products industry. As a result, the stock has outperformed the market by a wide margin over the last year, and the company's brands are garnering a larger market share.
P&G is also noted for performing well during market downturns.
Even so, there are significant headwinds on the horizon. Those include supply chain and inflationary pressures, as well as the rise of private label brands.
Understanding Procter & Gamble
In 2014, P&G moved to divest the company of roughly one hundred brands. Management's goal was to focus the company's resources on the products that commanded beefier margins and customer loyalty. When that initiative was complete, P&G was left with sixty-five brands; however, those products accounted for more than 85% of the firm's top line and 95% of its profits.
It is important to note that many of the products are considered essential in modern society and are consumed on a regular basis. Today, roughly 25% of feminine protection products, over 20% of baby care products, more than 60% of blades and razors, and greater than 25% of fabric care sold in the U.S. are P&G brands.
Even in tough economic times, feminine hygiene and baby and fabric care, as well as other products in P&G's portfolio, will be in constant demand.
Consequently, Proctor and Gamble stock has performed relatively well during periods of economic malaise: for example, during the Great Recession, the S&P 500 fell 57% between October 2007 and March of 2009. During that same time frame, P&G shares fell 38%.
P&G is leading rivals. Of the company's ten product categories, nine increased their market share over the past three-, six- and twelve-month periods in the U.S. Procter & Gamble's revenue increased over 4% per year over the past three years, while net income grew by roughly 14% annually.
The company is also geographically diverse. The firm's brands are sold in over 180 countries and territories. Canada and the U.S. constitute 47% of total sales, with Europe contributing 22%, Greater China 10%, the Asia Pacific region 9%, Latin America 6%, and India, the Middle East, and Africa 6%.
P&G is also a Dividend King. With over a century of dividend payments and sixty-six years of increasing dividends, the company trails only American States Water (AWR) and Dover Corporation (DOV).
Headwinds
Higher fuel and materials costs are forcing P&G to impose higher prices on consumers. As of the last earnings report, management claims this has not lessened demand for the company's products.
Q2 was a strong quarter, very strong top line growth, sequential earnings progress in the face of significant cost headwinds, continued strong cash productivity. Our progress enables us to confirm fiscal year EPS guidance while increasing our estimates for top line growth, cash productivity and cash return to share owners.
Andre Schulten, CFO
P&G forecasts organic sales growth in a range of 4% to 5% for FY22. That is an increase from prior guidance of 2% to 4%. However, management also expects increased pricing related to inflation to be a larger contributor to sales growth in the back half of the fiscal year.
Inflationary pressures, supply chain issues and foreign exchange pressures will weigh on profitability.
In total, our revised outlook for the impact of materials, freight and foreign exchange is now a $2.8 billion after tax headwind for fiscal 2022 earnings, or roughly $1.10 per share, a 20 percentage point headwind to core EPS growth.
Andre Schulten - Chief Financial Officer
A second concern lies in the move by many retailers towards private label products.
I have highlighted an investment in Kroger (KR) in the past, in part due to its move towards private label products. Using that company as example, in 2020, Kroger notched over $26 billion in sales of in-house brands. In FY22, the company's private brand sales had increased to $28 billion. There is a strong incentive for Kroger (and all retailers) to promote private label brands, as they are 25% to 30% more profitable.
While most of Kroger's offerings are food products, there is a nascent movement among consumers to purchase private label apparel, pantry items, personal care, and household cleaning supplies.
A recent survey by eMarketer revealed 80% of respondents had purchased or were willing to try private label products. According to this study, products that constitute a large fraction of P&G's brand portfolio are among items consumers are willing to buy as private labels. Private Label, personal care, household cleaning and beauty products have been purchased by 54.2%,53.6% and 33.4% of respondents, respectively.
This is a secular trend that bears watching. I would posit that if a recession dawns, customers may opt for private labels out of economic necessity.
What Should Investors Consider About The Upcoming Earnings?
P&G's Q3 2022 earnings are scheduled for April 20th.
As previously noted, Proctor and Gamble has been increasing its market share for an extended period. According to management, this has been the result of innovative product releases, pricing power, and supply-chain strength. Investors should peruse the earnings report for a change in that trend.
It is common of late for management to note whether increased pricing is weighing on demand for the company's products. Investors should seek out related commentary during the earnings call, and note changes in guidance related to inflationary and supply chain trends, either positive or negative.
During the last earnings call, management upgraded its guidance for organic sales growth to 4% to 5%. Investors should note whether that forecast remains stable.
Dividend And Debt
P&G has a current yield of 2.30%. The payout ratio is a tad above 60%. The 5-year dividend growth rate is 5.37%.
The company has AA credit ratings.
Is PG Stock Overvalued Now?
Shares of PG currently trade for $153.54. The average 12-month price target of the 14 analysts that cover PG is $162.38. The average price target of the nine analysts that rated the company since the last earnings report is $167.88.
The company's forward P/E is 27.05x. This compares to its average P/E over the last five years of 22.96x. P&G's 5-year PEG is 4.53x versus its average PEG over the last five years of 3.24x.
Is PG Stock A Buy, Sell, Or Hold?
For investors seeking a solid investment that weathers economic downturns while providing a safe, growing dividend, Procter & Gamble is a prime investment.
Management guides for EPS growth in FY 2022 in a range of 6% to 9%. The company is steadily gaining market share, and can boast of 25 consecutive quarters of organic sales growth.
PG's strengths include its diverse portfolio of businesses, scale, and strong brands. The company's products tend to be those in daily use categories, including essential health, hygiene and cleaning. This stands in stark contrast to discretionary categories which are more likely to face downturns in periods of high inflation or economic malaise.
The negative I see when considering an investment in P&G is in the stock's current valuation. As I note, the shares are trading at a premium in relation to historic valuations.
Consider this: PG has a forward P/E of 27.05x. Compare this to the forward P/E of Microsoft (MSFT), at 28.97x, or Apple (AAPL) at 26.85x. I will add that PG has a 5-year PEG of 4.53x while MSFT and AAPL have forward PEGs of 2.30x and 2.32x, respectively.
When considering these valuation metrics, I have to believe that most investors would prefer MSFT or AAPL if initiating a new position
Due to the current valuation of PG, I rate the stock as a HOLD.
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