Procter & Gamble Company (The) (PG)

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The Procter & Gamble Company (PG)

F3Q09 Earnings Call

April 30, 2009 8:30 am ET


Jon Moeller - Chief Financial Officer

A.G. Lafley – CEO

Teri List – Treasurer


John Faucher – JP Morgan

Bill Schmitz – Deutsche Bank

Bill Pecoriello – Consumer Edge Research

Lauren Lieberman – Barclays

Wendy Nicholson – Citi Investment Research

Joe Altobello – Oppenheimer

Chris Ferrara – Bank of America-Merrill Lynch

Andrew Sawyer – Goldman Sachs

Bill Chappell – SunTrust

[Zee Cramer] – BMO Capital

Jason Gere – RBC Capital

Linda Weiser – Caris

Ali Dibadj – Bernstein

Alice Longley - Buckingham Research



(Operator Instructions) Welcome to Procter & Gamble’s quarter end conference call. Today’s discussion will include a number of forward looking statements. If you will refer to P&G’s most recent 10-K, 10-Q and 8-K reports you will see a discussion of factors that could cause the company’s actual results to differ materially from these projections.

As required by Regulation G, P&G needs to make you aware that during the call the company will make a number of references to non-GAAP and other financial measures. Management believes these measures provide investors valuable information on the underlying growth trends of the business. Organic refers to reported results excluding the impact of acquisitions and divestitures and foreign exchange where applicable.

Free cash flow represents operating cash flow plus capital expenditures. P&G has posted on its website a full reconciliation of non-GAAP and other financial measures.

Now I will turn the call over to P&G’s Chief Financial Officer, Jon Moeller.

Jon Moeller

A.G. Lafley, our CEO and Teri List, our Treasurer join me this morning. I’ll begin with a summary of third quarter results. Teri will cover business highlights by operating segment. I will then outline our priorities before updating guidance. Following the call, Teri, Mark Erceg, John Chevalier and I will be available to provide additional perspective as needed.

We had a good third quarter in light of a very difficult macro economic environment. We continue to grow organic sales despite shrinking global GDP and rising unemployment and importantly maintained global value shares. Organic sales were up 1%. Diluted net earnings per share were $0.84; this was toward the high end of our guidance range of $0.78 to $0.86 per share. Core earnings per share was up 8% versus year ago. Excluding foreign exchange earnings per share grew strong double digits.

Operating margin was up 30 basis points as cost savings, productivity efforts and price increases more then offset volume de-leverage, higher commodity costs and about 60 basis points of incremental Folgers restructuring charges. We had a strong cash quarter, generating $3.5 billion in free cash flow or 136% of earnings. Our free cash flow target for the year remains at or above 90% of earnings excluding the non-cash Folgers gain.

Earlier this month we increased our quarterly dividend by 10% from $0.40 to $0.44 per share, this is the 119th consecutive year since we were incorporated as a company in 1890 that we have paid a dividend and the 53rd consecutive year the dividend has been raised. This notable in the year when many companies will fail to increase or even eliminate their dividends.

We also continue to repurchase shares. Fiscal year to date we have repurchased $6.3 billion of P&G stock, we’ve purchased $16.3 billion of stock since the July 2007 inception of our three year stock repurchase program.

Most important, we’ve continued to invest in innovation, commercialization capability and capacity. We continue to introduce new products and expand into new markets. We continue to focus on bringing value to consumer’s lives. We are making decisions today with an eye toward what will make us stronger tomorrow. This is the hallmark of our company, one that has thrived for over 170 years.

While results are good in this environment they are below our long term targets of 4% to 6% organic sales and double digit earnings per share growth. Let me explain why this is and how we think about it. Our long term financial model is fairly straight forward; most of you know it well. Top line growth is comprised of three to four points of market growth and one to two points of share growth, mix and white space expansion. Combined with operating margin expansion of 50 to 75 basis points this drives double digit earnings per share growth.

There are four important assumptions in this long term model that are causing deviations in the near term. The first is market growth. Market growth rates have declined in both developed and developing markets driven by increases in unemployment, reductions in household wealth, consumer credit issues and fear. Our categories in aggregate are growing but they’re growing one to two points below the 3% to 4% assumed in our sustainable growth model. We expect that to continue until a broad based global economic recovery takes hold.

The second assumption that is implicit in the model is constant trade inventories. Credit and pricing dynamics drove reduction of inventories at some retailers, distributors and wholesalers. We saw the impact of this in both the October-December and January-March quarters, in developed and developing markets. This had an additional negative short term impact on sales.

A third assumption is a stable commodity environment. This clearly has not been the case this fiscal year. Year to year, net commodity impacts remain at about $2 billion. Over time we’re able to recover about 75% of higher commodity costs through pricing but this pricing can lead to near term share volatility when we are the first manufacturer to price across markets and categories.

The fourth important assumption over long periods of time is stable foreign exchange. As we’ve talked previously we’ve witnessed dollar strengthening that is unprecedented in amount, breadth, and speed. This has had a significant impact on our top and our bottom line. We price to recover the transaction impact of currency which impacts every company in a market.

The translation impact which is negative for US based companies but neutral or even positive for non-US competitors passes through to the bottom line. Currently these impacts are meaningful. Absent foreign exchange impacts, our third quarter earnings would have been up strong double digits.

While these short term macro economic fluctuations are important they don’t guide the majority of our actions which are focused on the fundamentals we know are critical to long term success in our industry. Fundamentals like superior consumer value, innovation, cost and cash discipline, and productivity improvement. Focusing on these items and funding them will allow us to maximize results in both the mid and long term and will have a much more enduring impact on our business then short term trade, commodity or FX volatility. I’ll talk more about this towards the end of the call.

The last thing I want to address before turning the presentation over to Teri is volume. Organic volume declined 5% in the quarter. This was driven by retailer de-stocking, foreign exchange, related pricing in developing markets, and market contraction in more discretionary categories. We have already spent a fair amount of time on FX transaction impacts in past conversations but I want to revisit it one more time because absent a clear understanding of this dynamic it is very hard to put current volume trends in context.

Currency markets impact commodity costs because many of the commodities we purchase can only be bought in dollars. When local currencies devalue, commodities increase in local currency terms. The example I’ll use is fluff pulp which is used in baby and feminine care products. Recently the dollar cost of fluff pulp has come down 7% versus year ago. Because fluff pulp is priced primarily in dollars and Latin American currencies and aggregate have devalued by about 25% since July 1st, fluff pulp is actually up 18% in these markets in dollar terms.

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