Consumer Products

Colgate-Palmolive May Be Both Cheap and Expensive for a Defensive Stock

Jon C. Ogg

Positives include improvements to the Colgate Total brand, increasing its products with natural ingredients, promoting new pet foods for younger and older pets. While some of the metrics may seem expensive, the Argus report said:

Capital efficiency is another major theme. Colgate-Palmolive has a 36% return on invested capital (by Bloomberg’s calculation) which is well above the peer average of 15% and currently higher than every peer-group company. Perhaps most importantly Colgate-Palmolive’s return on capital is 29 percentage points higher than its cost of capital.

Colgate reaffirmed its guidance that calls for a mid-single-digit decline in earnings per share from last year’s $2.97 are due in part to increased advertising costs. The company also is making selective acquisitions after having announced this summer that it had agreed to buy the Laboratoires Filorga Cosmétiques (Filorga) skincare business for an equity purchase price of about $1.7 billion. Regionally, Colgate may hold up based on its global sales (as of last quarter): North America (22%); Latin America (24%); Europe (15%); Asia Pacific region (17%); Eurasia/Africa (6%) and Hill’s pet food (16%).

In its Asia Pacific region, net sales decreased 4% from the prior year, with a volume decrease of 1.5%, with foreign exchange as a negative of 3.0%, and pricing was up 0.5%. In China, organic sales decreased 1.0% and operating profit fell 14% as the operating margin narrowed 320 basis points to 26.9% due to an increase in general and administrative costs.

Argus maintained its 2019 earnings estimate of $2.90 per share after factoring in a slightly lower share count. Management is said to be expecting an increase in commodity costs, while its productivity improvements should offset commodity and currency pressure. Argus also is maintaining its 2020 estimate of $3.15 per share and is modeling slightly more than 3% sales growth. The firm’s five-year earnings growth rate forecast is still 7%, and the repots still calls for effective innovation to drive sales and to improve efficiency.

Colgate most recently had $863 million in cash and cash equivalents and is generating about $3 billion of cash from operations while EBITDA was above $4 billion in each of the past three years. The report further noted:

Total debt of $6.6 billion looks high at 103% of capital, but that is because the company had a $1 billion charge in 2015 related to Venezuelan operations. This reduced shareholders equity to a negative value and raised debt-to-capital. The company’s interest coverage is a more relevant indicator and that is very strong. Leverage, with total debt at less than 2-times trailing-twelve-month EBITDA in FY18, FY17, and FY16 is similarly supportive of high credit ratings. … The dividend payout ratio has risen from about 37% in 2009 to about 60% of our 2019 adjusted earnings estimate. We think the current level is reasonable for a mature company… The company has a share repurchase program but plans to reduce repurchase activity after the Filorga deal in order to pay down debt more quickly.

Argus did note that Colgate is not without risks. One is a lack of sales growth, and its 2018 total sales were lower than they were in 2010, even if its net income in 2018 was up from 2017 and was higher than in 2010. The company also is dealing with mature markets, and it will need to raise sales of its most innovative products.