1 Procter and Gamble (NYSE: PG) Recommendation: BUY 1,100 shares at NAV of $69,333 • Increased dividends every year for past 55 years • Increased R&D efforts to drive innovation ($2B in 2011) • 24 brands each with over $1B in annual revenue • Balance between Domestic and International Exposure •Strong sales despite the Great Recession Rachel Garrett Steven Mickey Jake Reynolds November 8, 2011 Annual Revenue by Segment
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Procter and Gamble (NYSE: PG)
Recommendation: BUY 1,100 shares at NAV of $69,333 • Increased dividends every year for past 55 years • Increased R&D efforts to drive innovation ($2B in 2011) • 24 brands each with over $1B in annual revenue • Balance between Domestic and International Exposure •Strong sales despite the Great Recession
Rachel Garrett Steven Mickey Jake Reynolds November 8, 2011
Due to the nature of the industry (targeting the household consumer), we decided to focus our
economic analysis on Household metrics. This principal trend this most recent quarter (September
2011) is that consumer spending rose in as Americans saved less, which has contributed to momentum
of GDP growth (sitting at a 2.5% annual rate, which is up from the 1.3% pace of the past 3 months).
Wages and Salaries: Private wages and salary disbursements increased $17.9 billion in September,
which is a considerable figure when compared to the $9.8 billion decrease in August. If this trend
continues, it is a positive sign for a consumer staples company like P&G, because it means that
consumers have more money to spend on household and personal products.
Disposable Personal Income (DPI): DPI increased 0.1% in September which is up from the 0.1%
decrease in August. Real DPI (which takes into account price changes) decreased by 0.1%, as compared
to the 0.4% decrease in August. Trends in annual sales of household and personal products tend to
mirror trends in disposable income. It is true that that the quantity of these products consumed
remains steady throughout the economic cycle since they are consumer staples. So with the economic
uncertainty that the United States is facing, a defensive industry will still see returns even during
economic downturns. However this recent trend of an upwards bump in real disposable income is even
better news for Procter and Gamble because with more money in their wallets, consumers are more
likely to favor and buy even more of the private label products that P&G has to offer.
4 Bureau of Economic Analysis
5 Bureau of Labor Statistics
6 Federal Reserve Board
7 Dallas Federal Reserve
8 S&P NetAdvantage Industry Analysis
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Personal Consumption Expenditures (PCE): PCE increased in September by $72.1 billion (0.6%) as
compared to the $27.6 billion (0.2%) increase in August. Real PCE increased by 0.5%, which is also up
from the decrease of less than 0.1% in August. Personal saving as a percentage of disposable income
was 3.6% in September, which is down from the 4.1% in August, indicating that people are spending
more of their money rather than putting it into savings, which is another good sign for P&G product
sales.
Consumer Price Index (CPI): The index for all items less food and energy increased by 0.1% in
September, which is its smallest increase since March (the 12-month change stayed at 2% for the second
straight month). This indicates that price changes associated with the cost of living are fairly steady as
of now. This can be seen both positively and negatively for P&G. Consumer staple companies like P&G
are not passing increasing costs (from rising commodity prices) along to consumers. However, this
steady retail price inflation also means that since companies are not significantly raising their prices,
consumers will be tempted to substitute away from the name brand consumer staple offerings or forgo
purchases all together.
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Foreign Exchange: Since international sales accounting for 63% of P&G revenue, it beneficial to look at
the value of the dollar as compared other currencies. The dollar has begun to appreciate a bit which
could potentially make U.S exports less attractive, but the value is still relatively low in historic terms.
Industry Analysis9,10,11,12,13,14
Procter and Gamble operates in the nondurable
consumer goods sector. These manufactured products
can be divided into two categories: household and
personal care. Household and personal care product
companies are mostly conglomerates, which is the case
for P&G. Companies in this industry compete on brand
recognition, product quality, and the level of service
they provide to their customers (in the form of retailers
9 Value Line
10 PG 2011 10K
11 S&P NetAdvantage Industry Survey
12 Grocery Manufacturers Association (GMA)
13 SymphonyIRI Group
14 Fidelity
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and wholesalers). This industry is large and fragmented. P&G and Unilever account for about half of
worldwide sales. The primary markets for the companies in this industry include industrialized nations
in the United States and Europe, which are mature and highly competitive.
Nondurable consumer goods are a mature industry and revenue and earnings are relatively steady throughout the business cycle. It is also classified as a defensive industry. These stocks perform well during good economic times and provide good downside protection during rough or uncertain times, such as the period we are facing right now. This can be seen in the fact that he sector and sub- industry (household goods) continues to outperform the S&P 1500 index. Year to date through October 14, the S&P Household Products Index rose 5.0%, compared to a 3.0% drop for the S&P 1500 Index. In 2010, the sub-industry index advanced 4.4%, versus a 14.2% rise for the S&P 1500.
Current Environment
So far in 2011, there has been improved demand in higher-priced products and discretionary items.
However, there has also been a renewed fear that increased commodity costs pressures would force
companies to compensate by charging higher prices for their products. However, the steady consumer
price index (as discussed in the Macroeconomic Analysis) indicates that this does not appear to be the
case as of now.
Industry Outlook
The industry outlook is neutral. Although we are seeing trends of increased demand for higher-priced
products, consumers are expected to remain fairly price sensitive for the next couple of years. Success
in defending high market share against suppliers of lower priced products will depend on a company’s
marketing and product innovation ability. The market looks to remain highly competitive due to the
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maturity of the industry in developed countries. For this reason, there has been recent interest in
venturing into emerging markets. The economic growth and changing lifestyles of populations in these
emerging international markets looks to present great growth opportunities for established companies
in the industry. Other ways that companies have been coping with the challenge of stimulating sales in
a mature market are: creating new product categories, adding new distribution channels, and acquiring
(and divesting) businesses.
Drivers of Success in the Industry
New Product Offerings: Because of the mature nature of this industry, product innovation drives a company’s future sales growth. This can be achieved through upgrades/adding value to offerings or developing new complimentary items. Successful new products tend to carry higher profit margins than established products. In the past 16 years, P&G has had 132 products on SymphonyIRI Group’s list of each year’s 25 most successful new products, more than their six largest competitors combined. In addition, P&G invests about $2 billion a year in R&D — about 50% more than their next closest competitor and more than most of their closest competitors combined.
Brand Equity: Building consumer awareness and establishing a brand name through marketing
and advertising is initially very costly, but nonetheless important. Mature products also require
upkeep in this area to ensure customer loyalty. The establishment of the brand’s reputation
and customer loyalty is important because only in the most difficult of times will a long-time
customer consider switching from a reliable product they have used over the years to a cheaper
alternative. P&G is a dominant global marketer, spending $8.6 billion on advertising and
marketing in its 2010 fiscal year (ended in June), up $1 billion (14%) over 2009. According to
Advertising Age, P&G was ranked first in total US advertising spending in 2009. Through
advertising, P&G raises the profile of its brands as a way to increase brand equity and drive
consumer demand.
Product Mix: for each product, offering a number of name brands available at different price
points captures consumers at every income level. P&G’s success with this tactic can be seen in
its various detergent offerings (Tide, Cheer, and Gain), which is why the company has 60.3% of
the market share in this category.
Market Share: establishing a high stake in the market share gives a company power over
retailers and ensures prime shelf space for their products. Also, stronger demand for a product
means that it can be produced in higher quantities, which allows for manufacturing and
production efficiency. P&G is the market leader (U.S) in 7 of the 8 categories, as shown on the
next page.
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40%
39%
21%
Batteries
P&G Energizer Other
65% 30%
5%
Razor Blades
P&G Energizer Other
60% 13%
12%
6% 9%
Laundry Detergent
P&G
Sun Products Corp
Church and Dwight Co
Henkel
42%
30%
28%
Toothpaste
P&G Colgate-Palmolive Other
37%
29%
10%
24%
Deodorant
P&GUnileverColgate-Palmolive
29%
28% 24%
19%
Toilet Tissue
Kimbery-Clark P&G
Koch Industries Other
37%
13% 13%
37%
Shampoo
P&G L'Oreal Unilever Other
48%
34%
18%
Disposable Diapers
P&G Kimberly-Clark Other
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Emerging Markets
With the saturation in U.S and Western European markets, developing markets are looking to be
lucrative business opportunities. In many of these emerging markets, GDP, disposable income, and
population are outpacing that of the United States and Western Europe. In addition, by 2020, four of
the ten largest economies (in terms of GDP) will be emerging markets: China (#1), India (#3), Brazil (#7),
and Mexico (#10). P&G has been, and looks to continue, to take advantage of emerging market
opportunities, with 34% of their sales coming from emerging markets in 2010 (up from 20% in 2000).
Competition with Private Labels
With uncertainty about the future of the economy, consumers may be looking to buy lower cost
products, which would make private labels more attractive options for consumers. In fact, private label
products on average remain 29% lower in cost than national brands (2011). However, this price gap has
been shrinking and will likely contribute to private label share losses this year. Private labels currently
hold 22.9% of sales of consumer packaged goods, which is the first decline since the beginning of the
economic downturn. National brand manufacturers have been focusing on protecting and growing
shares in their own brands. These efforts have been met with success as shown by the recent private
label shares decline this year.
Private labels still garner a sizable share of consumer spending. However, the private label product
momentum is not evenly distributed across channels, and sales are declining across most consumer
packaged goods departments.
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For now, it looks as if it looks as if name brands will continue to enjoy the majority of the household
goods market share despite the lower prices offered by private labels.
Green Revolution
Green products are holding strong even as the economy struggles. Before the recession, green products
were among the fastest growing sectors in the U.S economy. This growth has since slowed, but
customers are still committed to sustainability and buying green. Companies have begun to tap into the
green market (P&G’s Tide Coldwater was the first detergent to be awarded the Green Good
Housekeeping Seal in 2010) and there is still much opportunity for growth in this area. In addition to
green product launches, companies in this industry are looking to make their own operations more
sustainable.
Porter’s Five Forces15,16
Threat of New Entrants: Low
The enormous portfolio of products distributed under P&G’s name makes it difficult for new entrants to
compete. Since P&G garners a significant amount of the market share in this industry, a potential
entrant would need a great deal of capital for manufacturing, as well as a large budget for marketing,
research and development, and advertising in order to compete on the same level as the big companies
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Procter and Gamble 10K 16
Reuters
16
like P&G. This establishes a substantial barrier that keeps the threat of new entrants low for this
industry. Patents on products also serve as a barrier to entry.
Buyer Power: High
The profitability of P&G depends heavily on its buyers. P&G relies greatly on stores like Wal-Mart to
generate a sizable portion of its revenue. For the past 3 years, about 16% of P&G’s total sales were to
Wal-Mart. Losing Wal-Mart as a customer would put a sizable dent in P&G’s revenue. This high
dependence reduces the bargaining power of P&G.
Power of Suppliers: Low
P&G does not have a strong reliance on any specific suppliers, which makes the power suppliers low.
Consumer products companies like P&G might incur some costs from switching suppliers. However,
supplier cost is still limited due to the sheer size of P&G, which gives the company substantial bargaining
power over suppliers.
Competitive Rivalry: High
There are a considerable number of substitutes for P&G’s product offerings. In the markets that P&G
sells its products, it has to compete against other branded products, as well as private labels. There are
many different options when it comes to product offerings in this industry. Operating in the
oversaturated and mature American and Western European markets does not make things any easier.
Top companies must rely on brand recognition and product innovation to gain market share.
Threat of Substitutes: Low-Medium
The majority of products in the P&G portfolio are consumer staples, and therefore classified as
necessities that do not really have substitutes. For example, there is no substitute for laundry
detergents other than different types of laundry detergent. The same is true for most of their products
(i.e. batteries, shaving cream, etc…). However, substitutes do exist for some of their products lines like
snacks and fragrances. In terms of substituting for readily available comparable products, the threat
does exist but through rigorous marketing and ad campaigns, it is likely that P&G’s brand recognition
will keep customers’ loyalty.
Competitors17,18,19
Church and Dwight Company: This company develops, manufactures,
and markets a range of household, personal care, and specialty
products. Best known for ARM & HAMMER, it is the top marketer of
baking powder worldwide. Some of the company’s other products
include bathroom cleaners, carpet deodorizers, air fresheners,
17
S&P NetAdvantage 18
Yahoo Finance 19
Hoovers
17
toothpaste, and cat litter. Consumer domestic products accounted for 73% of Church and Dwight’s sales
in 2010, while international sales accounted for 17% and specialty products 10%.
Clorox: Divested from Proctor and Gamble in 1969 and has since
focused on building big-share brands in mid-sized categories. Clorox
reports four segments which include cleaning, household, lifestyle, and
international. Clorox products are sold in over 100 countries. Some of
the Clorox’s name brand offerings include 409, Tilex, Brita, and Glad.
Colgate-Palmolive (CL): A global consumer products company that
operates in the oral, personal and household care, and pet food markets.
The company operates in over 70 countries and sells its products in more
than 200. About 75% of Colgate-Palmolive’s net sales come from outside
the U.S, the biggest portion of which comes from Latin America. Colgate-
Palmolive is Procter and Gamble’s biggest competitor when it comes to
oral care with products including toothbrushes, toothpaste, and pharmaceutical products for oral health
professionals. Some of their other products include Hills Pet Nutrition (which makes Science Diet and
Prescription Diet pet foods), as well as personal and homecare items which include Ajax brand cleaner,
Palmolive dishwashing liquid, and Speed Stick deodorant.
Energizer Holdings: One of the world’s largest manufacturers of
primary batteries and flashlights. Energizer also distributes
batteries for non-consumer industrial applications, including
lithium batteries for cameras and camcorders as well as miniature
batteries for watches, calculators, hearing aids etc… Its products
are sold in more than 165 countries. In 2003, the company acquired from Pfizer the Schick Wilkinson
Sword shaving product business. The company also provides sun care (Banana Boat), feminine care
(Playtex), and infant care (Diaper Genie) products. The two main operating segments for Energizer are
Household products and personal care.
Johnson & Johnson (JNJ): A global company engaged in
research and development, manufacture, and sale of various
products in the health care field. Johnson & Johnson operates
in three segments: consumer, pharmaceutical, and medical
devices. The consumer segment makes up 24% of sales,
primarily focusing on personal care products including prescription drugs (Tylenol), adult skin and hair
care (Neutrogena), infant care, first-aid (Band-Aid) and nutritional products. Johnson & Johnson is the
closest in market cap to Procter and Gamble.
18
Kimberly-Clark (KMB): A global consumer products company
that is a top producer of personal paper products. It has
manufacturing facilities in more than 40 countries and sells its
products to over 150 countries. In more than 80 countries
KMB’s products are at the hold the first or second position in their respective product area. The
company has had over 30 strategic acquisitions and 20 divestures since 2002. Some of the company’s
best known brands include Kleenex, Scott, and Huggies. In addition to tissue, KMB also manufactures
personal care and healthcare products.
Unilever (UNA): Based in London and made up of 2 parent companies (Unilever
Plc and Unilever N.V) that operate as a single entity. Unilever is a global
supplier of consumer goods across a wide range of food, home, and personal
care product categories. Unilever was the world’s #1 consumer products maker
until 2005 when Procter and Gamble purchased Gillette. The home and
personal care segments of the company accounted for 49% of sales in 2010.
The group sold its underperforming North American laundry business in 2008 to Sun Products
Corporation. Some of its well-known brands include Snuggle, Surf, Axe, Dove, and Vaseline.
Competitive Advantages20,21,22
Broad portfolio with product lines satisfying multiple price tiers, allowing P&G to cater to
varying income levels and capture more market share.
Large scale operations with sizable distribution network and go-to market capabilities that give
P&G a first mover advantage.
Superior brand management and brand leadership capabilities, which allow for maximization of
customer loyalty and market penetration.
Supply chain continues to maintain record of excellence, ranking #3 overall in Gartner’s Top 25
global supply chains, and #1 in the consumer product goods industry.
Leader in product innovation
o Spends nearly $2 billion annually in R&D, which is about 50% more than their closest
competitor and more than most other competitors combined
o Each year P&G invests another $400 million in foundational consumer research to
discover opportunities for innovation, conducting over 200,000 studies in more than
100 countries
o Has significantly improved the percentage of innovations meeting revenue and profit
targets
20
P&G 10K report 21
Harvard Business Review 22
The Motley Fool
19
In 2000 only 15% of innovations were meeting targets
Connect and Develop program was launched in 2001
This past year, about 50% of innovations were meeting targets, making it one of
the most productive innovation years in P&G’s history
Company Recognition23
Market Analysis24,25
Upon first glance it seems PG has
underperformed the market within the past year,
but with a longer time horizon in mind it vastly
outperformed the S&P 500. It is important to note
that PG’s returns do not include its dividends,
which are above average as well. PG’s P/E ratio is
comparable to that of the S&P 500. Long term
performance and a high dividend yield make PG
seem attractive at first glance and worthy of more
• Ranked #5 among the "Global Most Admired Companies"
• Consistant #1 ranking within industry on "Most Admired" list for 26 of 27 total years and for 14 years in a row Fortune
• Ranked #10 on the "World's Most Respected" Barron's
• Ranked #25 on the "World's Most Innovative Companies" Bloomberg Businessweek
• Named to list of Global 100 Most Sustainable Corportations in the world, with top ranking for 2000-2011 Dow Jones Sustainability Indexes
• "Outstanding Acheivment in Innovation" award, recognizing P&G as the most innovative manufacturer in the consumer packaged goods industry for the last decade
• Recognized for using innovation to launch 4 of the 10 most successful new products in 2010 SymphonyIRI Group
• Ranked #3 in the "Research Supply Chain Top 25" AMR
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Financial Statement Analysis26,27,28,29,30
Liquidity: Average
PG’s current and quick ratios are
both less than 1, which might initially be
cause for concern, but PG has credit ratings
of AA- and Aa3 from S&P and Moody’s,
respectively. Additionally, data from the
most recent quarter shows improvement
since the financial crisis, which is always
reassuring.
When compared with its peers,
however, PG still seems to have liquidity
problems. This could be attributed to
PG’s extensive use of derivatives to
hedge against foreign currency exchange and interest rate risk. These
derivatives are not classified as current assets even though they may protect
funds used to pay current liabilities.
The Z score is a highly reliable metric of solvency within a two year
time period. A Z score above 3 falls within the “safe” area, so in this case PG
is not in danger of bankruptcy. This effectively negates some of the concerns
about PG’s current and quick ratios, but it still underperforms its peers.
Debt Management: Average
PG’s debt ratios are all average. Current ratios do not differ much
from historical patterns, but given the aforementioned credit ratings PG has