Procter & Gamble (NYSE:PG) is slated to release its results for Q3 FY2014 Wednesday, April 23. The world’s leading consumer goods company posted a 3% year-over-year increase in organic sales (excludes the impact of acquisitions/disposals and foreign currency movements) in Q2 FY2014, at the lower end of its annual guidance. While all other segments registered low- to mid-single-digit organic sales growth, beauty organic sales were essentially flat. 
A decline in skin care sales and disproportionate growth in developing regions and mid-tier products, both of which have lower than segment average selling prices, resulted in a 0.4% market share loss in the beauty category for P&G in the second quarter.  The company’s management is confident about turning around the segment through organic growth. P&G believes that working on brand architecture, packaging and ensuring that its products reach consumers in different age groups can help bring the business back on track. 
P&G’s beauty portfolio boasts of iconic brands like SK-II, Hugo Boss and Gucci. We expect the appetite for these premium brands among consumers to increase as the global economy recovers. Additionally, P&G has established its presence in the beauty market through innovations, supported by widespread marketing campaigns. We think that the company will continue to do so, which should help revive beauty segment sales.
We have a $70 price estimate for P&G’s stock, about 15% lower than its market price. We will update our model after the upcoming results are announced.
Currency Headwinds Will Impact Fiscal Sales Growth
P&G recently lowered its guidance for sales and earnings growth for FY 2014 (fiscal year ends in June) due to unfavorable exchange rate movements in many developing economies and policy changes by the Venezuelan government. It expects currency translation effects to reduce all-in sales (accounting for the impact of currency movements) by 2%-3%. However, it maintained its guidance of 3%-4% growth for organic sales (excludes the impact of foreign currency movements). Consequently, all-in sales are now expected to register up to 2% growth, compared to the initial forecast of 1%-2% growth. 
Lately, many developing countries (such as Brazil, Russia, South Africa, Argentina and Turkey) have witnessed their currencies depreciate relative to the U.S. dollar. This has negatively weighed on the income statements and balance sheets of many American firms that have significant operations outside of the U.S. The currency devaluation has also created inflationary pressures on many markets, because of which buyers have reduced their consumption.
Towards the end of 2013, Unilever’s CEO, Paul Polman, announced at the World Wildlife Fund Duke of Edinburgh Conservation Awards that this slowdown in emerging economies will stay for a long period. P&G derives about 40% of its revenues from emerging markets, lower than its close rivals Unilever and Colgate-Palmolive. However, the company is now looking to enhance its presence in these markets as they continue to grow faster than developed economies. We believe that a prolonged slowdown could hamper P&G’s expansion plans, and consequently its growth trajectory.
Cost Savings Will Help Offset Foreign Exchange Losses And Higher Commodity Costs
P&G announced a restructuring program in 2012, through which it aimed to save $6 billion in costs of goods sold. The motive behind the cost savings program is to have financial flexibility in order to maintain investment levels and drive long term growth, even in weaker micro environments. In the previous quarter, P&G’s gross margin contracted by 90 basis points to 50% as its restructuring program helped it to partly absorb the impact of adverse geographic and product mixes, unfavorable exchange rates and higher commodity costs. 
P&G saved $1.2 billion in cost of goods sold in FY2013 and is on track to save another $1.6 billion in FY2014, up by $200 million from the company’s last forecast. This should provide increased support to gross margins going forward. We think that gross margins can also expand as the company strives to lift its beauty division. Beauty is a higher margin business compared to other product categories such as fabric care and paper.Notes:
- P&G Quarterly Results, SEC, Q2 FY 2014 [↩] [↩]
- The Procter & Gamble Company’s Management Discusses F2Q 2014 Results – Earnings Call Transcript, Seeking Alpha, January 24, 2014 [↩]
- P&G Updates Earnings Projections to Reflect Significant Currency Exchange Rate Movements, P&G Investor Relations Website, February 11, 2014 [↩]
- Procter & Gamble Q2 Earnings Release, P&G Investor Relations, January 24, 2014 [↩]