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Procter & Gamble Marks A Healthy Start To The Fiscal Year Despite Slow Growth In Beauty
Procter & Gamble ( PG ), the world's leading consumer goods company, posted 4% y-o-y rise in organic sales (excludes the impact of acquisitions/disposals and foreign currency movements) in Q1. This was at the higher end of its guidance due to strong organic sales growth (8%) in the developing economies. Overall, while volumes increased 4% y-o-y, other forces such as pricing and mix were essentially neutral.
Net sales increased 2% y-o-y to $21.2 billion, as currency headwinds in Japan, Venezuela and some of the key emerging markets, offset the impact of organic sales growth by 2%. The company's net income rose 8% to $3 billion, benefiting from lower selling, general and administrative expenses, and lower tax rates.
P&G's fabric & home care segment and baby, feminine & family care segment delivered organic sales growth in excess of 5% y-o-y, while beauty, grooming and healthcare segments underperformed with only 0-1% increase in organic sales. P&G derives close to 25% of its revenues from beauty products. The lackluster performance of the beauty division has been stirring concern among investors, suggesting that more needs to be done in beauty.
Our current price estimate of $74 for Procter & Gamble marks our valuation at a discount of about 10% to the market price.
Beauty Division Could Rejuvenate With New Product Additions
P&G's beauty portfolio includes iconic brands like SK-II, Hugo Boss, Dolce & Gabbana, Gucci, Lacoste, James Bond 007, Head & Shoulders, Olay and Pantene. Organic sales in beauty increased only 1% y-o-y in Q1 FY 2014, as 2% y-o-y higher volumes were offset by 1% impact of unfavorable geographic and product mix.
Some of P&G's beauty products performed weaker than others in Q1. For instance, while personal cleansing, cosmetics and deodorants witnessed healthy organic sales growth, skin care sales declined during the quarter. The management feels that its salon professional business also requires increased focus.
We expect the appetite for premium brands among consumers to increase as the global economy recovers. Additionally, P&G has built a strong pipeline of innovations that should help it bring the business back on track. The management conveyed that these innovations will be brought to the market in Q2 and Q3, although it did not give any further details on the launches. P&G's efforts should help revive the beauty division; however, high promotional activity from competitors ahead of these launches could hold back growth.
Based on the above mentioned factors, we estimate P&G's beauty division will gain market share in the future. However, the increase will be small due to high competition in the segment, adverse affects of product mix in emerging markets and cost-saving measures that may eat into the company's marketing budgets.
Gross Margin Likely To Expand In The Future
P&G announced a restructuring program in 2012 through which it aimed to save $10 billion in costs. Under this program, the company will save $6 billion in costs of goods sold, while another $1 billion and $3 billion, from marketing efficiencies and non-manufacturing overhead, respectively. Like previous quarters, P&G's cost-saving initiative supported the company's gross margins in Q1.
Core gross margin, excluding the effects of one-time costs and restructuring activities, fell by 1.3% in Q1 to under 50%. This was the result of 1.6% increase in cost-savings being offset by geographic and category mix, foreign exchange, higher commodity costs and higher manufacturing start-up costs. The main impact was from expansion into lower margin geographies and product categories that reduced core gross margin by 1.4%.
P&G is working to reduce cost structures in the developed markets that will help it cut down costs and inventory. The company delivered cost-savings ahead of its plan in FY 2013, and has increased its full year expectations for cost-savings in FY 2014 from $1.2 billion to $1.4 billion. This should provide increased support to gross margins going forward. Moreover, as the company strives to lift its beauty division, we think that gross margins will expand as beauty is a higher margin business compared to other product categories such as fabric care and paper.
We are in the process of updating our $74 price estimate for Procter & Gamble based on the Q1 FY 2014 results.