Unilever Earnings Preview: Benefits Of Zero Based Budgeting To Be Offset By High Raw Material Costs

Europe based consumer industry giant Unilever (NYSE:UL) will release its Q4’16 and full year earnings on January 26th. Unilever’s constant currency sales grew by 4.7% in the first half of 2016 due to strong innovations and new brand additions to its fast growing segments like personal care. Unilever’s core operating margins saw an improvement of over 50 basis point during the same period owing to its cost saving initiatives and a shift towards premium products.

The company’s  results are likely to be affected by :

1. Synergies from new acquisitions
2. Benefits of Zero Based Budgeting
3. High raw material costs

See our complete analysis for Unilever here

Acquisitions To Add To the Top-line

Unilever has acquired over 10 brands in FY’15 and ’16. Most of these brands (including REN, Murad, Kate Somerville and Dermalogica) operate in the skin care market, which is not only the biggest, but also one of the fastest growing, markets for Health and Beauty products. It is expected to grow at around 5% per year to 2021. Though the combined revenues of the skin care brands acquired in 2015 was under $1 billion, it still accounts for over 1% addition to the total revenues, without factoring in the individual growth of these brands over the last year and the recent acquisitions in 2016. Therefore, the synergies from the acquisitions made in 2015 and early 2016 are likely to reflect in Unilever’s top-line growth in the annual results of 2016. Also, most of these brands fell into the premium high price category which might further elevate margins of the company. (See: Unilever’s Acquisition Spree In 2015 and 2016 Could Help Boost Its Revenues And Profits).

Time To Reap The Benefits Of Zero Based Budgeting

ZBB (i.e., zero based budgeting) is the cost savings program undertaken by Unilever under which all the expenses incurred by the company have to be reconsidered and justified for every quarter or a reporting period. The company claims that in the first nine months it has completed the first two phases of this program. The first phase included the data gathering and benchmark comparisons of costs with other companies in the same industry. The second phase included value targeting where Unilever has picked out the specific areas where cost savings can be done. Now only implementation stage was left for the fourth quarter which is likely to have been completed with a resultant uplift the company’s Q4 earnings.

Raw Material Cost Might Continue To Hurt

• After Brexit, Unilever encountered high costs for the imported raw material because of weakened the Pound Sterling. Due to this, Unilever wanted to increase the prices of some of its products which led to a tussle between the company and the retailers like Tesco.
• However, Sterling continued to lose value against the US dollar with the pair falling over 6% in Q4.
• Apart from this, crude oil prices rose by nearly 15% in the quarter to comfortably reach the levels above $50 a barrel.
• The palm oil prices, which affected Unilever’s cost in Q3, again increased by over 2% in Q4.

Therefore, while Unilever’s overall margins are likely to rise due to the benefits from the organizational changes and cost cutting initiatives like Zero Based Budgeting, some of these gains might get offset by high raw material costs mentioned above.

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