Barron's thinks Procter & Gamble (PG, Financial) might be a buy. Don't get fooled again.
Berkshire Hathaway (BRK.A, BRK.B) has owned a huge stake in consumer product maker Procter & Gamble for a very long time. As of June 30, it represented the firm’s sixth-largest dollar holding.
Warren Buffett (Trades, Portfolio) is famous for saying his favorite holding period is “forever.”
That stance has not served him well in recent years. Of Berkshire Hathaway’s top five positions – Wells Fargo (WFC, Financial), Coca-Cola (KO, Financial), IBM (IBM, Financial), American Express (AXP, Financial) and Walmart (WMT, Financial) – only the bank outperformed the Standard & Poor's 500 during the three years ended Sept. 18.
Chart: Refects prices as of Sep. 18, 2015
Barron’s Sept. 21 issue suggested that Procter & Gamble, down from $93.89 last December to $69.94, might now be cheap enough to buy. I don’t agree.
The firm’s solid balance sheet, low beta and consistent profitability combined with the halo effect of Berkshire’s endorsement lured conservative investors into holding PG alongside Buffett.
Those normally admirable qualities did not translate into good stock price movement. Over the long haul PG shareholders trailed the returns of almost two-thirds of the 1,700 companies in Value Line’s main research universe.
Procter & Gamble’s Sept. 18 close was more than $5 below its 2007 peak, a year earlier than what is shown on the chart below. Its total return from Dec. 12, 2007 through last week was a cumulative 14.5% including all dividends. That was worth only about 1.71% annualized, considerably less than a bank CD would have earned.
Continuous holders from PG’s high points were also shafted on a cash-flow basis. Taxes were due on dividends in the years they were received while paper losses cannot reduce the IRS’s grip on your wallet until they become "realized."
Clearly, buy and hold was not an effective way to play PG. Getting involved when the stock’s multiple was well below normal offered trading opportunities. PG became a "must sell" any time it neared or exceeded 20 times the company’s current year’s estimate.
At the current valuation, of 18.4 times FY 2016 estimates, PG still sports a higher-than-typical P/E. The firm’s better-than-normal yield is really just an artifact of bad management.
Dividend growth investors have been lulled into holding PG due to steady annual increases in the quarterly payout. The Board of Directors pandered to that crowd by lifting the payout ratio by 80%, from around 40% to 72% of earnings, over the past seven years.
EPS barely grew, going from $3.64 in FY 2008 to a FY 2016 (ends June 30, 2016) expectation for $3.81. Meanwhile the dividend rate expanded by almost 90%, from $1.45 to $2.75 per share. Cash payouts and capital spending (combined) are now higher than reported earnings. That leaves little room for future growth.
What do you get for your money with Procter & Gamble?
It buys a higher-than-market multiple for puny historical growth, an artificially high yield and shares which have not progressed over most of the last decade.
PG’s holders are advised to use PG as a source of funds (that means SELL in broker speak) while leaving PG for Buffett and the “I’m never selling” crowd.
Disclosure: No position
