Procter & Gamble (PG, Financial) has most recently been in the news for its tender offer to buy back the company's bonds from the market. This offer follows what could be termed as a stellar quarterly result, where the company managed to beat Wall Street's expectations.
The stock price has been zooming up based on a string of solid results coupled with a strong performance across multiple categories. Its dividend yield is not bad either. Given all of this, just what are the key factors that are driving the exceptional growth of the company?
Procter & Gamble has been delivering earnings beats consistently for the past three years and this time it managed to beat expectations in terms of both revenues as well as earnings. On Oct. 19, the company reported its earnings results for its first quarter of fiscal 2021, for which it achieved revenue of $19.32 billion, which was significantly above the analyst consensus estimate of $18.38 billion and an improvement of 9% as compared to the corresponding quarter of the previous year.
The U.S. and Chinese markets drove the organic sales of the company with revenues rising by 16% and 12%, respectively. The strong performance was across all categories, as 9 out of its 10 categories were in the green. Home cleaning and maintenance supplies continued to be the top-performing categories with 30% growth after the increasing demand for hygiene products in the Covid-19 pandemic.
All this had a direct impact on the bottom-line of the company, as Procter & Gamble reported earnings per share (EPS) of $1.63, which was way above the analyst consensus estimate of $1.42 and a 22% jump as compared to the same quarter of 2019.
Historically, Procter & Gamble's dynamic marketing strategy has been a key factor driving its growth even in the most turbulent business environment. A key transformational change brought in by the company to generate a higher yield per dollar spent on marketing was to control the use of advertising agencies and transferring the function in-house while directing the money saved towards providing a greater push to its products.
While many consumer goods companies have kept their advertising spends flat or even lowered them in the past few quarters, Procter & Gamble actually increased its advertising expenditure by $100 million in the previous quarter. The company has been directing its marketing expenditure towards high-margin products, which explains the phenomenal rise in the earnings per share.
The management is attempting to carry out about a third of its $7 billion annualized media spending internally with minimal assistance from creative agencies. The new strategy clearly seems to be working in favor of the consumer giant so far, and the positive macro for consumer staples is also favoring them.
It is also important to highlight that the company's marketing spends have been directed towards many innovative new products to capitalize on the Covid-19 environment and this has been a critical factor responsible for category growth.
Focus on online growth
The Covid-19 pandemic is responsible for a significant change in consumer purchasing behavior with respect to many products, as there has been a marked shift towards online shopping. This changed behavior also applied to the consumer essentials segment in which Procter & Gamble operates.
The company has a clear online sales strategy in place which is ensuring close to a 50% year-on-year growth, with e-commerce revenues accounting for around 11% of its top-line. Procter & Gamble's marketing efforts also appear to be stronger in the direction of digital advertising, which has led to a direct positive impact on its online sales. The margins on these online sales are higher as the company manages to bypass the entire value chain of distributors and other middlemen, keeping a larger part of the profits This consistent double-digit online sales growth has been instrumental in the margin expansion of the company.
Cash flows and dividend
One of the most important takeaways from Procter & Gamble's recent performance is how cash-rich the company is today. The management was able to convert close to 95% of its net earnings into free cash flows, which gives it the leeway to not just return cash to shareholders via dividends and buybacks but to also reduce the debt levels. Through their nearly $2 billion tender offer, the management looks to buy back high-interest debentures of the company, some of which have interest rates as high as 8% or more. This is a great utilization of the cash balance.
The company already returned the $4.1 billion of adjusted free cash flow to shareholders, half through dividends and half through share buybacks. The management intends to return anything between $15 billion to $17 billion to its shareholders in the full fiscal year. Its current dividend yield of 2.27% is decent.
Procter & Gamble has gained close to 18% over the past six months riding on strong quarterly results. This price appreciation is over and above an overall yield of more than 2%. The company appears moderately overvalued as per the Gurufocus Value Line, so I give the stock a "Hold" rating.
Its net margin of over 18% is among the highest in the consumer staples industry, resulting in a phenomenal return on equity of 27.5%. The marketing strategy of the management is panning out well and its growing online sales indicate a strong resilience.
Disclosure: No positions
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