With Brand Divestments Almost Over, Here’s How P&G Plans to Cut Costs Next

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PG: Procter & Gamble logo
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Procter & Gamble

Fiscal 2015 has been a watershed year in the history of global consumer processed goods behemoth, Procter & Gamble (NYSE: PG). The company turned a decade of aggressive acquisitions on their head and embarked on an ambitious plan to trim its portfolio of nearly 200 brands down to just 65. This so-called ‘brand consolidation’ program is about to come to a close, as P&G expects to have identified most of the brands to be divested by this summer (Read: P&G Expects Brand Consolidation to be Over by Summer).

Having set a plan in motion to revive top-line expansion, P&G has now laid out a cost-saving strategy to improve its bottom-line. It is a three-pronged strategy that will involve new local manufacturing facilities in developing markets, supply-chain optimization, and lower marketing expenses. [1]

In this report, we will look into P&G’s cost saving plans and evaluate how they will benefit the company.

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We have a price estimate of $82 for Procter & Gamble, which is nearly the same as its current market price.

See our complete analysis for Procter & Gamble here

Local Manufacturing Facilities

Procter & Gamble plans to open at least 18 new manufacturing facilities in developing markets. While this will result in higher capital expenditure in the short term, the localized manufacturing will yield significant cost savings over the long term. These cost savings will be in the form of lower manufacturing, transportation and import-related costs. Perhaps more importantly, manufacturing products locally will shield P&G from currency fluctuations to a large extent.

It should be noted that adverse currency movement is the single biggest factor that has depressed Procter & Gamble’s earnings in the last few quarters (Read: P&G Reports Moderate Q3 Results, Lays Out Future Growth Strategy). This is because weak local currencies result in higher cost of imported products, which in turn impact the company’s margins. Once the new manufacturing plants are operational, P&G will no longer need to import its products into those regions, thus reducing its exposure to volatile local currencies.

On the other hand, manufacturing products locally may expose P&G to high inflation in certain emerging markets. Commodity cost inflation was also a major factor that exerted a drag on P&G’s recent quarterly earnings. Nevertheless, we believe that the potential benefits from cost savings and lower exposure to local currencies will outweigh the risk of commodity cost inflation. After all, P&G has historically been quite trigger-happy when it comes to raising prices to protect its margins (Read: Falling Volumes Compound P&G’s Problems as Currency Headwinds Dampen Q2 Results).

Supply-Chain Optimization

Procter & Gamble is currently in the process of implementing one of its biggest supply chain restructuring programs in the company’s history. In 2014, it devised a plan to shut down its smaller distribution centers in the U.S. and consolidate its distribution network into fewer, larger centers. These centers are planned to be strategically located near key customers and population clusters, so that 80% of the destinations are within a one-day distance. Six of the new distribution centers opened under this program are already operational and the program is set to be completed this year. [1] P&G has taken similar steps in Europe and announced the consolidation of distribution centers in France and the UK in 2014. [2]

The company expects the supply-chain restructuring efforts to yield $400 million to $600 million in annual cost savings over the next five years. Including the impact on the top-line through lower lead times and reduction of stock-outs, P&G expects the total value-add of the program to be in the range of $1 billion to $2 billion. [1]

Lower Marketing Expenses

The last component of P&G’s cost savings program involves reducing its marketing expenses by focusing on higher efficiency. The company intends to achieve the same by shifting to digital advertising through social networks, video campaigns and mobile ads. P&G also intends to drastically cut down its expenses on media agencies by reducing the number of partner agencies. This will allow the company to save on agencies’ fees and advertisement production costs, as well as overhead costs resulting from managing and coordinating between numerous agencies. The company expects this move to deliver up to $0.5 billion in cost savings. [1] P&G spent $9.2 billion in advertising in fiscal 2014. [3]

The reduction of contracted media agencies goes hand in hand with the reduction in the number of brands that P&G will own and operate after the completion of the brand consolidation program. Earlier, P&G owned nearly 200 brands which necessitated contracts with numerous agencies to help manage its worldwide marketing campaigns. Post-consolidation, P&G will own just 65 brands, thus reducing the requirement of a large number of media agencies.

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Notes:
  1. Procter & Gamble Fiscal 2015 Third Quarter Earnings Call Transcript, Seeking Alpha, April 23, 2015 [] [] [] []
  2. P&G Annual Report 2014 []
  3. P&G Joins Movement to Cut Ad Costs, The Wall Street Journal, April 26, 2015 []