Gross Margin Expansion Will Help Colgate-Palmolive To Maintain Its Dominance In Oral Care

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Colgate Palmolive

In the past several quarters, balancing the business mix between developed and emerging markets has helped Colgate-Palmolive (NYSE:CL) to achieve above market growth and experience only a moderate impact on net sales from effects. Additionally, gross margin improvements resulting from cost savings have allowed the company to spend more on advertising its products while also increasing the operating profit. Colgate’s gross margin stood at 58.6% in Q1, and it is working toward expanding its margins by 70 to 100 basis points for the full year. [1]

The oral care giant is slated to release its results for the second quarter of fiscal year 2014 on Thursday, July 31. We believe the past trends will govern the Q2 results as well. We expect organic sales growth (net sales excluding foreign exchange, acquisitions and divestments) will be between 5% and 7%, in line with the company’s guidance for 2014. However, net sales growth should not be more than 5% due to currency headwinds in the emerging markets that offset organic sales.

We have a price estimate of $59 for Colgate-Palmolive’s stock. We will revise our estimate after the upcoming results announcement.

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Gross Margin Expansion To Help In Investing Back Into Innovations, Product Launches And Advertising

Under its cost savings program, Colgate is: 1) substituting raw materials; 2) reducing packaging material; 3) negotiating better lease and contract terms with current suppliers; and 4) increasing manufacturing efficiency by reducing the number of stock keeping units (SKUs). The savings from the program are helping Colgate to reinvest in building its brands, which is essential to counter heightened competitive activity in some important markets such as the U.S., India and Mexico. The company realized $40 million of after-tax savings for the full year 2013, and it expects to save double that amount in 2014. [2]

Colgate leads the global toothpaste market with over 40% share. Its market shares in the toothbrush and mouthwash categories are also strong at 33% and 17%, respectively. For the current year, Colgate has a strong pipeline of innovations and new product launches spanning across categories such as toothpastes, toothbrushes, mouthwash, deodorants and fabric softeners. We believe the company’s savings program will allow it to support these launches with increased advertising expenditure which will fuel further market share gains. [2]

Pet Nutrition Business Is Recovering Robustly

Until Q1 2013, the Hill’s pet nutrition business (generates 13% of company net sales) had been under-performing relative to Colgate’s other divisions, mainly due to lower volume sales. The company managed to turnaround the business in Q2 2013 with strong innovation and effective communication with customers through a widespread marketing campaign. Organic sales from the pet nutrition business increased 5.5% year over year in Q2, much higher than the 0.5% growth achieved in Q1. The turnaround occurred a quarter ahead of schedule, due to faster execution from the company’s retail partners, PETCO and PetSmart.

In the final quarter of 2013, Hill’s registered its strongest organic sales growth (7%) in five years. This was largely driven by the success of its Ideal Balance and Prescription Diet products. In Q1 too growth was strong at 5.5% due to the launch of new Ideal Balance dry variants for cats and dogs. Colgate plans to support its products this year by providing nutritional consulting to customers at superstores, by offering in-clinic communication, sampling programs, and coupons and by increasing its advertising spending. Although this will drive down Hill’s gross margins in the near term, we believe that such initiatives are necessary to drive long-term growth. [1]

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Notes:
  1. Colgate-Palmolive’s CEO Discusses Q1 2014 Results – Earnings Call Transcript, Seeking Alpha, April 25, 2014 [] []
  2. Colgate-Palmolive Management Discusses Q4 2013 Results – Earnings Call Transcript, Seeking Alpha, January 30, 2014 [] []