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Ishan Majumdar
Ishan Majumdar
Articles (8) 

Is It Prudent to Avoid a Stock Like Colgate-Palmolive?

The company’s revenue growth has flattened, it is facing increasing raw material costs and is losing market share

October 15, 2018 | About:

Colgate-Palmolive Co. (NYSE:CL) is one of the oldest and largest names in the consumer goods industry. Over the years, it has grown to become a profitable cash cow, but its revenues have flattened with the management's focus on margin expansion. The company has also started to see strong competition and loss of market share in key markets as well as rising operating expenses and foreign exchange risks in emerging markets.

Rising operating expenses

Colgate-Palmolive has struggled to produce organic revenue growth over the last several years and there has been a marginal increase in terms of operating costs. The company generates more than half of its revenues outside the U.S. and the weakness of currencies in emerging markets like India is affecting costs. Inflation in these economies is the reason for rising operating expenses. As a result, management revised its operating margin guidance, which was previously expected to increase by 50 basis points, to a more realistic level.

Strong competition in key markets

The largest emerging markets for Colgate-Palmolive are Brazil, India and China. While the company is a market leader in oral care products in both Brazil and India with over 50% market share, it also owns nearly a third of the Chinese market. The current slowdown in these economies as a result of the trade war and the generally weak economic climate has had an impact on Colgate-Palmolive’s business.

While long-term macroeconomic factors, such as high population growth, work in the company's favor, it has started to see strong local competition in these markets. Not only is there a strong emergence of domestic players, but the improving performance of private labels is resulting in a loss of market share, stagnant revenues and stunted growth.

Solid fundamentals and weak growth

Colgate-Palmolive is a classic example of a company that is focusing on margins after  growth has flattened. The company enjoys a healthy 13.97% net margin and a return on assets of 17.24%, outperforming industry peers. However, the cause for concern is the growth numbers. The company's three-year revenue growth is -0.4% and every gain in profitability has been largely due to the efficiency of the management team. Given these factors, the current price-earnings ratio of 25.02 seems fair.  The enterprise value-to-revenue ratio of 3.85 seems to be slightly on the higher side.

Colgate-Palmolive's five-year price chart justifies the current price level as we see the total revenue has dropped, which is why the price level is more or less within the same range. The historical price upswings are justified by the dramatic improvement in the margins, but these are also expected to stabilize soon.

The stock has provided a decent dividend yield to investors over the years. The five-year yield-on-cost is 3.42%, which is on the higher side for a consumer goods company. The current yield is 2.62%, which is expected to remain stable in the future.

Conclusion

Colgate-Palmolive is not a bad investment for those who already hold the stock. A decent dividend yield and a management team focused on margin expansion are two very positive aspects of the stock. However, the company is struggling to grow its oral care business despite the rising population and is losing market share in large economies. The rise in material costs due to inflationary pressure is also not a positive sign. From a growth perspective, the stock appears to have very limited upside but can be held for its dividend yield.

Disclosure: No positions.

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About the author:

Ishan Majumdar
I am a qualified Chartered Accountant and a Masters in Management (Grande Ecole) from HEC Paris. I run a proprietary boutique financial advisory firm named Baptista Research specializing in research and valuation of listed companies.

I have over 6 years of work experience spread across investment banks, financial advisory firms, investment funds, and other corporates. This experience was acquired across many different geographies such as France, Spain, India, and so on. I was a part of the LBO Financing team at BNP Paribas where he worked on deals with a combined Enterprise Value of over $1 billion. I have also worked in Mergers and Acquisitions with Credit Agricole CIB and Corporate Strategy with Groupe Danone SA. Over the years, I have developed a strong specialization in corporate valuations, strategy, and financial analysis.

At Baptista Research, our research focuses on providing long as well as short recommendations for stocks and ADRs available for US-based investors. We track undervalued/ overvalued companies and provide our recommendations based on a strictly fundamentals-focused approach. Our research is largely focused on the midcap and small-cap segments.

Our analysis revolves around the projection of earnings of companies in attractive sectors based on industry trends. We follow the discounted cash flow (DCF) and the trading and transaction multiples approach for our valuation.


If you want us to work on a valuation assignment, feel free to mail me on [email protected]

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