Procter & Gamble (PG-NYSE)

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1 April 30, 2012 Procter & Gamble (PG-NYSE) Current Recommendation Prior Recommendation Outperform Date of Last Change 01/20/2009 Current Price (04/27/12) $64.44 Target Price $68.00 NEUTRAL SUMMARY Procter & Gamble reported modest results for the third quarter 2012, with adjusted earnings of $0.94 per share beating the Zacks Consensus Estimate by a penny. Moreover, earnings were in line with the prior-year figure as benefits from top-line growth and cost savings from restructuring activities were offset by rising commodity costs. Organically, revenues were up 3% driven primarily by pricing benefits. We are encouraged by the company s strong brand position, the company s rapid pace of product innovations, and its solid presence in the fast growing emerging markets. However, continuously rising commodity costs, which pull down margins despite revenue growth keeps us on the sidelines. We therefore have a Neutral recommendation on the company with a target price of $68.00 SUMMARY DATA 52-Week High $ Week Low $58.51 One-Year Return (%) 2.78 Beta 0.45 Average Daily Volume (sh) 11,942,766 Shares Outstanding (mil) 2,754 Market Capitalization ($mil) $177,468 Short Interest Ratio (days) 1.61 Institutional Ownership (%) 53 Insider Ownership (%) 0 Risk Level * Low Type of Stock Large-Blend Industry Soap&Clng Preps Zacks Industry Rank * 33 out of 267 ZACKS CONSENSUS ESTIMATES Revenue Estimates (In millions of $) Q1 Q2 Q3 Q4 Year (Sep) (Dec) (Mar) (Jun) (Jun) Annual Cash Dividend $2.25 Dividend Yield (%) Yr. Historical Growth Rates Sales (%) 0.9 Earnings Per Share (%) 4.7 Dividend (%) 10.1 using TTM EPS 16.6 using 2012 Estimate 16.7 using 2013 Estimate 14.9 Zacks Rank *: Short Term 1 3 months outlook 3 - Hold * Definition / Disclosure on last page ,807 A 21,027 A 19,178 A 18,926 A 78,938 A ,122 A 21,347 A 20,230 A 20,860 A 82,559 A ,917 A 22,135 A 20,194 A 20,631 E 84,877 E ,884 E 22,445 E 20,906 E 22,017 E 87,252 E Earnings Per Share Estimates (EPS is operating earnings before non-recurring items, but including employee stock options expenses) Q1 Q2 Q3 Q4 Year (Sep) (Dec) (Mar) (Jun) (Jun) 2010 $0.97 A $1.10 A $0.89 A $0.71 A $3.67 A 2011 $1.02 A $1.13 A $0.94 A $0.84 A $3.93 A 2012 $1.03 A $1.10 A $0.94 A $0.80 E $3.87 E 2013 $1.11 E $1.16 E $1.03 E $1.03 E $4.33 E Q210 EPS has been restated. Future quarter results will be restated as and when the company reports. Projected EPS Growth - Next 5 Years % Zacks Investment Research, All Rights reserved North Canal Street, Chicago IL 60606

2 RECENT NEWS P&G Beats by a Penny; Misses Sales April 27, 2012 Procter & Gamble reported modest results for the third quarter 2012, with adjusted earnings (excluding restructuring charges) of $0.94 per share beating the Zacks Consensus Estimate by a penny. Moreover, earnings were in line with the prior-year figure as benefits from top-line growth and cost savings from restructuring activities were offset by rising commodity costs. Adjusted earnings were within the company guidance of $0.91-$0.97 per share. Revenue and Margins P&G s net sales increased 2% to $20.2 billion in the third quarter However, organically (excluding the impact of acquisitions, divestitures and foreign exchange), revenues were up 3% driven primarily by pricing benefits, which offset headwinds from product and geographic mix. Broad-based price increases added 5% to revenue growth whereas geographic/product mix pulled down sales growth by 2%. Volumes were flat in the quarter. P&G s net sales marginally missed the Zacks Consensus Estimate of $20.3 billion. The retail giant who until now owned 24 billion dollar brands like Tide and Gillette to name a few announced the addition of Vicks and SK-II to its core brands portfolio. Gross margin for the quarter declined 150 basis points due to higher commodity costs and unfavorable geographic/product mix. Adjusted operating profit was up 2% in the quarter despite the tough macroeconomic environment where most retail and consumer companies are witnessing margin declines. P&G s productivity improvement and cost-saving programs combined with favorable revenue growth led to the operating profit expansion. Segment Discussion Beauty: Beauty products grew 1% (2% organically) to $4.8 billion driven by pricing growth. Price increases added 5% to revenue growth whereas mix reduced it by 4%. Volumes were up 1%. Volume gains in the Hair Care and Prestige Products offset weakness in Skin Care, Personal Care and Cosmetics. The segment s net earnings were up 3% to $523 million as benefits from revenue growth and a lower tax rate partially offset decline in operating margins Operating margins contracted due to rising commodity costs and unfavorable mix. Grooming: Grooming products were flat (2% organically) at $2.0 billion. Price increases added 3% to revenue growth whereas product mix reduced it by 2%. Volumes were up 1% with both Shaving Care and Appliances sub segments witnessing low-single digit volume growth. The segment witnessed gross margin declines again due to rising commodity costs and unfavorable geographic/product mix. Net earnings declined 4% to $398 million due to gross margin contraction. Health Care: Healthcare products increased 2% (2% organically) to $3.0 billion. Price increases added 3% to revenue growth while volumes were flat. Volume gains in the Feminine Care segment were offset by declines in the Oral Care and Personal Health Care. The segment s net earnings were down 4% to $411 million due to gross margin headwinds. Fabric Care and Home Care: The segment grew 1% (2% organically) to $6.6 billion as pricing gains were offset by volume declines. Price increases added 7% to revenue growth whereas mix and volumes reduced it by 2% and 3%, respectively. All the three sub-segments Home Care, Fabric Care and Pet Care witnessed volume declines in the quarter. The segment s net earnings were down 9% to $716 Equity Research PG Page 2

3 million due to soft sales and operating margin declines (due to rising commodity costs and lower gross margins). Baby Care and Family Care: The segment grew 5% (6% organically) to $4.2 billion driven by volume growth. Price increases added 5% to revenue growth whereas mix reduced it by 2%. Volumes were up 3% with the sub-segments Baby Care and Family Care registering low-single digit increases in volume. The segment s net earnings increased 5% to $573 million driven by sales growth and improvement in operating margins. Operating margins expanded due to higher gross margins (driven by price increases and cost savings) and lower sales, general & administrative costs (as a percentage of revenue). Overall, almost all the business segments witnessed volume gains in the fast growing developing nations as against their developed counterparts which are currently suffering from low consumer disposable incomes and saturated markets. In February this year, P&G announced an agreement to spin-off its snacks unit which included the popular brand, Pringles, to leading cereal maker The Kellogg Company (K). The deal is expected to close by the end of June Outlook In fiscal 2012, the consumer goods giant is expected to post sales growth of 4%, both reported as well as organic. Pricing benefits are expected to add 4% to revenue growth whereas mix is expected to reduce it by 1%. Foreign exchange is expected to have a neutral impact on revenue growth. Previously, the company was expecting organic sales to inflate by 4% 5% in fiscal Adjusted earnings are expected to range between $3.82 and $3.88, down 1% from 2011 levels. The Zacks Consensus Estimate currently stands at $3.96 for fiscal In the final quarter of fiscal 2012, P&G expects to record sales growth of 2%. Organically sales are expected to be up 4%-5% benefiting mostly from pricing actions. Foreign exchange is expected to pull down the revenue growth by 3%. Management expects the fourth quarter to see better operating growth than the third quarter benefiting from solid top-line and improved productivity. Adjusted earnings are expected in the range of cents per share, down 4%-5% from prior-year levels. The Zacks Consensus Estimate currently stands at $3.96 for the fourth quarter. Management expects commodity cost pressure to ease a bit in the next quarter though they will continue to be a headwind to earnings. Moreover, the effective tax rate is expected to reduce adjusted earnings by 6%. VALUATION Procter & Gamble s current trailing 12-month earnings multiple is 16.6x, compared with the industry average of 16.5x and 14.5x for the S&P 500. Over the last five years, Procter & Gamble s shares have traded in a range of 13.1x to 23.5x trailing 12-month earnings. Based on 2012 earnings estimate of $3.87, the stock is trading at 16.7 compared to the industry average of 16.6x. We have a long-term Neutral recommendation on the stock. Our target price of $68.00 is based on approximately 17.6x our 2012 earnings estimate. Equity Research PG Page 3

4 Key Indicators F1 F2 Est. 5-Yr EPS Gr% P/CF 5-Yr High 5-Yr Low PROCTER & GAMBLE CO (PG) Industry Average S&P Spongetech Delivery (SPNGQ) Reckitt Benckiser Group plc (RBGPY) Henkel kgaa adr (HENKY) Colgate-Palmolive Co (CL) TTM is trailing 12 months; F1 is 2012 and F2 is 2013, CF is operating cash flow P/B Last Qtr. P/B 5-Yr High P/B 5-Yr Low ROE D/E Last Qtr. Div Yield Last Qtr. EV/EBITDA PROCTER & GAMBLE CO (PG) Industry Average N/A S&P Equity Research PG Page 4

5 Earnings Surprise and Estimate Revision History Equity Research PG Page 5

6 DISCLOSURES & DEFINITIONS The analysts contributing to this report do not hold any shares of PG. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1033 companies covered: Outperform %, Neutral %, Underperform 4.7%. Data is as of midnight on the business day immediately prior to this publication. Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5 th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively. NOTE YET. THIS IS A NEWS-ONLY UPDATE; THE REST OF THIS REPORT HAS NOT BEEN UPDATED OVERVIEW Headquartered in Cincinnati, Ohio, The Procter & Gamble Company is a major household products and cosmetics company, which manufactures and markets over 300 brand name products in more than 160 countries. The company is known for its impressive product development capabilities, marketing prowess, and a strong global distribution network. Procter & Gamble s products enjoy strong brand recognition. The company has the following reportable segments: Beauty (24% of total revenues in fiscal 2011): comprising of female beauty products (including cosmetics, deodorants, female blades and razors, personal cleansing and skin care), hair care (including both retail and salon professional) and prestige fragrances. Grooming (9% of total revenues in fiscal 2011): comprising of male blades and razors (including electronic hair removal devices, home small appliances, male blades and razors, male personal care). Health Care (14% of total revenues in fiscal 2011): includes feminine care, gastrointestinal, incontinence, rapid diagnostics, respiratory, toothbrush, toothpaste, water filtration, other oral care. Grooming (9% of total revenues in fiscal 2011): comprising of male blades and razors (including electronic hair removal devices, home small appliances, male blades and razors, male personal care). Snacks and Pet Care (4% of total revenues in fiscal 2011): includes Pet Care, Snacks Equity Research PG Page 6

7 Fabric Care and Home Care (30% of total revenues in fiscal 2011): Includes laundry additives, air care, batteries, dish care, fabric enhancers, laundry detergents, surface care. Baby Care and Family Care (19% of total revenues in fiscal 2011): Includes baby wipes, diapers, paper towels, tissues, toilet paper. Effective from February 2011, the three Global Business Units (GBU) have been merged into two, namely, Beauty.& Grooming and Household Care. REASONS TO BUY A major growth driver for Procter & Gamble has been the continual expansion of its portfolio of brands, both through internal development and acquisition. Product innovation is strongly supported by management and the company has had a strong tradition of not only introducing blockbuster new products but also creating entire new categories. The product categories for a synthetic laundry detergent, disposable diapers, and fabric softener did not exist until Procter & Gamble introduced Tide, Pampers and Downy, respectively. Further over last 18 months, the company expanded its portfolio to roughly 40 new category/country combinations in developing markets. Recent expansions have included Safeguard in Africa, Downy in Indonesia and Oral-B in Nigeria. Oral Care expansion with Oral-B toothpaste in Colombia, Chile, Argentina and Peru are in the pipeline. These are expected to boost revenue in the next few months. The rapid pace of product innovations, supported by strong marketing, help the company continue to deliver strong results. The company has 24 power brands together generating over $1 billion in revenues and a number of new brands are expected to reach that sales level in the future. Recent innovations like Crest 3D White, Downy Unstopables and Fusion ProGlide have generated decent sales in the respective quarters. Management is committed to improving the company s position in the faster growing developing markets. Management revealed that developing markets constitute about 35% of global sales of the company in fiscal It expects these emerging markets to pull up their performance and believes that their contribution to global sales will reach about 37% of sales and about 45% of volume by the end of fiscal During the second quarter, market share in Asia grew almost 2 points. In India, Pampers shipments grew 50% behind a combination of market growth and the most significant product upgrade since The launch of low cost Mach3 razors has also boosted the market size in India for wet shaving systems by 15% in just one year Procter & Gamble generates strong free cash flow annually. During the fiscal 2011, the company generated over $9.9 billion in free cash flow, reflecting 84% cash flow productivity. The cash flow allows management the opportunity to invest in product innovations, acquisitions, and brand development. It has a long term objective of generating a free cash flow productivity of 90% or greater. REASONS TO SELL Procter and Gamble currently is facing high commodity cost inflation. Since the beginning of fiscal 2011, the year over year impact from higher costs has more than tripled. Cost increases created an unanticipated earnings per share headwind of about $0.04 per share in second quarter of 2012 or nearly a 8 percentage point drag on earnings per share growth versus the company s going-in expectations. Equity Research PG Page 7

8 The company is facing severe competition in the Western European markets in both the blade and battery businesses. Although overall market share has increased for both batteries and blades, net revenues are declining. Management will have to intensify its marketing efforts to maintain market share and accelerate top-line growth. The company is facing severe competition in both the blade and battery businesses from Energizer. The latter has relatively developed markets with stable and predictable demographic trends in North America, Western Europe, and Japan. Therefore, management will have to intensify its marketing efforts to maintain market share and accelerate top-line growth. The company has also been witnessing supply shortfalls in the blades and razors, Pet care, Personal Cleansing, Skin Care, Hair Color and Oral care categories. StockResearchWiki.com The Online Stock Research Community Discover what other investors are saying about Procter & Gambl (PG) at StockResearchWiki.com: Analyst Last Updated by Copy Editor Content Editor Lead Analyst QCA Reason for Update Japamala Mukhopadhyay Note Equity Research PG Page 8