Why Investing in Toothpaste Is An Expensive Proposition--Heard on the Street
August 09 2016 - 04:30AM
Dow Jones News
By Stephen Wilmot
Consumer-goods stocks are often seen as "bond proxies." This
makes sense only as long as dividends look secure. In the digital
age this can no longer be taken for granted.
The likes of Procter & Gamble, Nestle and Unilever earn
profits by selling branded household products to consumers across
the globe. Their margins are protected by expensive marketing, vast
distribution networks and clout with retailers. Their growth has
long been assured by rising incomes in the emerging world.
The investment case looks fragile. The slowdown in emerging
markets is well documented. E-commerce and digital media have also
made the competitive moats surrounding established brands easier to
bridge.
The country where these challenges coincide is China. In the
first half, Unilever's Chinese business was flat year over year,
with rapid growth in e-commerce offset by declines in
bricks-and-mortar retail as stores reduced inventory. Just as many
emerging-world consumers leapfrogged landlines and moved straight
to mobile phones, in China they may be skipping modern
supermarkets, observed Unilever Chief Executive Paul Polman.
E-commerce threatens consumer-goods groups because online
retailers have unlimited shelf space, giving new brands ready
market access. Consumer reviews also affect choices, subordinating
the role of branding.
Meanwhile, digital media can reduce marketing costs. Dollar
Shave Club, the four-year-old male-grooming brand bought last month
by Unilever, is a case in point: Since a promotional video went
viral, its subscription-based model for razor deliveries has
rapidly taken U.S. market share from Proctor and Gamble's Gillette
business. This kind of problem helps explain why P&G's
underlying company-wide growth decelerated to just 1% for the year
to 30 June; management said the company was losing share in many
categories. Brand building used to take years, costly TV
commercials and supermarket contacts. Now it can just take a smart
idea and a lot of luck.
Against such a backdrop, it can be hard to understand why
investors pay ever higher multiples for shares in P&G and other
consumer-goods groups. Five years ago they traded for about 14
times earnings. Even as global growth has slowed and digital
disruption has become a live threat, the average price/earnings
ratio has risen to 22.
The global hunt for yield is the most plausible explanation.
Even after massive stock-market gains, shares in the sector yield
about 3%. Selling branded shampoo or mayonnaise--inexpensive yet
high-margin products--to a globally diffuse set of consumers
remains a steady business, whatever competitive challenges the
digital age has unleashed. When bonds pay next to nothing, a steady
income is prized above all else.
The problem with this thinking is not just that competition has
intensified. It is also that dividend yield has come at the expense
of dividend cover: Management teams have doled out an ever higher
proportion of earnings to keep shareholders on board. This squeezes
the money available for reinvesting in brands.
Global staple companies are in a trickier spot than their
formidable track records or high stock-market valuations imply.
Write to Stephen Wilmot at stephen.wilmot@wsj.com
(END) Dow Jones Newswires
August 09, 2016 04:15 ET (08:15 GMT)
Copyright (c) 2016 Dow Jones & Company, Inc.
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