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Dividend Aristocrats In Focus Part 42:  Procter & Gamble (PG)

Procter & Gamble (PG) is one of the largest corporations in the world with a market cap of $238 billion.  The company has made headlines recently as it restructures its operations by selling up to 100 non-performing brands and divesting its Duracell battery business.  Procter & Gamble has a streak of 58 consecutive dividend payments without a reduction.  Learn more about Procter & Gamble in part 42 of the 54 part Dividend Aristocrats In Focus series.  The infographic below sums up the long history of success Procter & Gamble has enjoyed.

PG Infographic
Source:  Procter & Gamble Investor Relations

Business Overview

The most significant change to Procter & Gamble’s operations is the sale of its Duracell business to Berkshire Hathaway (BRK.A) for $2.9 billion net of cash contributed to Duracell by Procter & Gamble.  When Berkshire Hathaway exchanges its Procter & Gamble shares for Duracell shares, Procter & Gamble’s share count will be reduced by about 1.2%.

Procter & Gamble operates in five segments:  Beauty, Hair, & Personal Care; Grooming; Health Care; Fabric Care & Home Care; and Baby, Feminine, & Family Care.  Each of the company’s four operating segments is analyzed below to give an overview of the company’s operations.

The Beauty, Hair, & Personal Care segment contains well known brands including Old Spice, Head & Shoulders, Pantene, and Olay, among others.  The segment generated $4.86 billion in revenue in the first quarter of fiscal 2015.  The Beauty, Hair, & Personal Care segment is Procter & Gamble’s third largest based on revenue.

Procter & Gamble’s Grooming and Health Care segment generated $3.95 billion in revenue in the first quarter of 2015.  The segment generated 19% of total revenue for Procter & Gamble in the quarter, making it the company’s smallest segment.  The segment sells notable brands Gillette, Venus, Braun, Nyquil, Pepto-Bismol, Prilosec-OTC, and Scope, among others.

The company’s Fabric & Home Care segment is currently its largest.  The segment generated $6.54 billion in revenues in the first quarter of fiscal 2015 which was 32% of Procter & Gamble’s revenue.  The segment is home to the Duracell brand.   The Duracell business generates an estimated $2.6 billion in revenue per year, or about $650 million per quarter.  Removing Duracell sales from the Fabric & Home Care Segment, the company generated an estimated 29% of total revenue for Procter & Gamble in the first quarter of 2015.  In addition to Duracell, the segment is home to the Gain, Dawn, Tide, and Febreeze brands, among many more.

The Feminine & Family Care segment manufactures and markets strong brands including Bounty, Charmin, Tampax, Always, and Luv.  The Feminine & Family Care segment is Procter & Gamble’s second largest, generating 26% of first quarter revenue on sales of $5.32 billion.

Competitive Advantage

Procter & Gamble’s competitive advantage is its strong brand portfolio of disposable consumer products.  The company sells razors, over the counter medicine, toilet paper, paper towels, diapers, shampoo, deodorant, and many other staple items that consumers use around the world.  Procter & Gamble’s strong brand names allow it to sell its products for a premium price.  The company supports its strong brands through global marketing.  Procter & Gamble spent about $9.2 billion or 11% of total revenue on marketing in full fiscal 2014.  Procter & Gamble has invested primarily in slow changing brands.  Innovation in paper towels, diapers, and upset stomach medicine is incremental at best.  This gives the company lasting power and reduces the need for large research and development spending on products that will cannibalize current revenue.

In addition to its portfolio of high quality brands, Procter & Gamble’s large size gives it a significant manufacturing scale advantage.  The company is in the process of becoming leaner and more efficient.  Procter & Gamble has reduced its employee count each year for several years while managing to grow revenue.  The company’s massive size allows it to leverage economies of scale and efficiencies that smaller businesses would not be able.

Growth Prospects & Total Return

Procter & Gamble has seen sluggish revenue per share growth of just 4% a year over the last decade.  The company is divesting its underperforming brands and restructuring its operations in an effort to realize greater efficiencies and spur growth.  Procter & Gamble is expecting 4% to 6% constant-currency EPS growth for fiscal 2015.  The company is targeting 7% to 9% long-term EPS growth as it focuses on its core brands and divests non-core assets.

I believe the company will manage to hit EPS growth somewhere between 5% and 9% per year over the next several years as it streamlines its operations as well as through organic growth.  In addition, the company currently has a dividend yield of 2.9%.  Going forward, shareholders of Procter & Gamble can expect total returns of between 8% and 12% a year from dividends and EPS growth.  I believe dividend growth will be in line with EPS growth of 5% to 9% a year as Procter & Gamble has a fairly high payout ratio of over 60%.

Recession Performance

Procter & Gamble is an extremely stable corporation due to its diverse portfolio if disposable consumer goods.  The company has a long-term price standard deviation of just 17.8%.  A standard deviation that low is common for utilities, not for consumer businesses.

As one would expect from a highly stable business, Procter & Gamble operated well throughout the Great Recession of 2007 to 2009.  The company saw a 1.65% decline in EPS from 2008 to 2009, and a 1.40% decline from 2009 to 2010.  Procter & Gamble’s growth stalled through the recession, but the company remained profitable throughout and saw only modest downturns in EPS.  Procter & Gamble’s EPS each year through the Great Recession of 2007 to 2009 and the subsequent recovery is shown below:

Valuation & Final Thoughts

Procter & Gamble is currently trading at a trailing P/E ratio of about 21.  The company has historically traded at a slight premium to the S&P500’s P/E ratio and this is the case now.  Based on its historical P/E ratio relative to the S&P500 I believe Procter & Gamble to be fairly valued at this time.

Procter & Gamble is a Top 40 stock based on The 8 Rules of Dividend Investing due to its sold dividend yield and extremely low price volatility.  The company makes a solid investment for dividend growth investors looking for solid if unspectacular growth and safety.

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