Investment thesis

Procter & Gamble’s (NYSE:PG) history traces back more than 180 years, and the company has developed most well-known household brands during its journey. The company’s topline growth has been stagnating in the last 10 years of delivery a 0% CAGR. PG’s investments in marketing and R&D show little evidence of adding value to shareholders. I consider PG stock as a sell given apparent struggles with growth and low dividend yield in the current high rate environment.

Company information

Goods under PG’s brands are sold in around 180 countries. The company manufactures daily-used household goods, personal care, food and paper products. According to the company’s website, it owns 65 individual brands.

PG disaggregates sales into five reporting segments, in FY 2022 60% of sales comprised from segments called Fabric & Home Care (35%) and Baby, Feminine & Family Care (25%).

Zero topline growth in the last 10 years

I have started analyzing the company’s financials by zooming out for the last 10-year period. It was surprising for me to figure out that in the last 10 years, the company’s revenue increased by a tiny 0.09%. The company sells its goods which are used by billions of people every single day and did not deliver any topline growth in the last 10 years.

As we can see from the chart above, revenue dynamics could have been even worse if there were no spike in revenue starting from 2020 which was due to the COVID-19 pandemic. People were doubling down on buying cleaning products at the beginning of the pandemic, but now people are not as afraid of the virus as they were before. The management expects total sales to be flat in FY2023, indicating that recent years’ growth fueled by the pandemic is over.

The company’s sales depend on two variables: volumes and sales prices. P&G sales were stagnating during the last 10 years indicating that either volumes or prices were deteriorating. But we all go shopping and see that prices for consumer goods, where PG is one of the leaders, are climbing every year. From the chart below we can see the dynamics of soap and other detergent producer price index over the last decade, provided by St. Louis Fed.

So, given that prices for the company’s goods were growing in the last decade, then there should have been problems with sales volumes. Demand for daily-use household products heavily depends on population growth, and, according to Wordlometer, the global population has been growing at about 1.2% CAGR over the last decade.

Given the above facts regarding prices and volumes, I don’t see any unfavorable external factors for PG’s revenue to stagnate: stable global demographic growth together with the company’s strong pricing power should have led to a steady topline growth with a CAGR at least slightly above the inflation. But it didn’t happen. In my opinion, the management failed to deliver organic growth and made little effort to grow via strategic acquisitions: the company’s latest strategic acquisition occurred almost 20 years ago when PG acquired Gilette.

The company’s margins are stellar, but they are stagnating as well as demonstrating little evidence of significant expansion potential in the near future, according to EPS consensus estimates.

From the balance sheet perspective, the company looks healthy with an AA credit rating and stable outlook from S&P Global Ratings. Although liquidity and leverage ratios have deteriorated in recent years.

Valuation

Procter & Gamble is a dividend aristocrat paying dividends for 132 consecutive years since its incorporation in 1890 and has increased dividends for 66 years in a row. Given the company’s exceptional dividend consistency, I use the dividend discount model [DDM] for valuation.

PG dividend consensus for FY 2024 is $3.91 per share and the expected dividend growth I use is 3.52%, which refers to the company’s Dividend Per Share Growth FY1-FY3 CAGR. For the required rate of return, I use the Gurufocus’ WACC estimate rounded up to 6.5%.

Incorporating all of the variables to the DDM formula, I arrived at a stock fair value of around $131 per share, which is 6% below the current price of around $140, indicating the stock is overvalued.

Seeking Alpha Quant Valuation grades also indicate that the stock is slightly overvalued. If we compare to the company’s historical multiples, they are currently insignificantly higher than PG’s 5-year averages. It is also worth mentioning that PG’s valuation multiples are much higher than the sector median.

In my opinion, much higher multiples in comparison to the sector median aren’t evidence that the stock is significantly overvalued. The market treats PG with a premium in comparison to the sector due to the company’s stellar profitability metrics, which is fair in my opinion.

To sum up the valuation, DDM outcomes suggest that PG stock is slightly overvalued at the moment which is supported by valuation multiples that are also slightly higher than the company’s 5-year averages.

Risks

I see macroeconomic risk as the most important at the moment. There is a possibility of a recession in the US and Europe in the foreseeable future, which poses significant risks to the financial performance of PG. Consumers are also heavily affected by inflation and central bank interest rate hikes, which would most likely lead to reduced sales and increased inventories. In addition, unfavorable exchange rate fluctuations and rising raw material costs will adversely affect the company’s earnings.

The next major risk is the company’s overdependence on mature brands with very high market saturation and thus little room for further growth.

The competition is growing as well, nowadays the company faces fierce competition from brands developed by stores. For example, Costco (COST) is being very successful with its Kirkland Signature brand, which exceeded $59 billion in sales in Costco’s 2021 fiscal year, up 13.4 percent year-over-year. According to Argus Research, sales of Kirkland Signature are expected to grow to $62 billion in FY2022, indicating a growth pace higher than PG has.

Bottom line

To sum up, for me, it is apparent that the company’s financial performance has been stagnating during the last decade, and, given the maturity of major brands together with current adverse macroeconomic conditions, I see little room for stock performance improvement ahead.

My valuation model together with multiples suggests that the stock is a little bit overvalued and forward dividend yield is not attractive being significantly below 3%, so for me, the stock is a sell.