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The Procter & Gamble Company: Investment Analysis Research Paper

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Updated: Dec 5th, 2020

Executive Summary

Procter & Gamble is a publicly-traded multinational corporation that specializes in producing household and personal care goods. It is headquartered in the United States, and the company’s executives are David S. Taylor as the Chairman and CEO and John R. Moeller as the CFO and Vice Chairman (“The Procter & Gamble Company (PG)”). Procter & Gamble is characterized by the stable financial performance observed during the decades. The company is widely known for its brands, including Gillette, Tide, Olay, Oral-B, and Pampers among others (“The Procter & Gamble Company (PG)”). Despite decreased sales in the past several years, the company has improved its historical dividend yield and expanded its market share, remaining one of the leaders in the industry.

From 2014 through 2018, the company sold its unprofitable brands and focused on promoting only the major ones. These changes in the strategies explained the decreases in sales from $74.4 billion in 2014 to $66.8 billion in 2018. The dividends per share increased from $2.45 in 2014 to $2.79 in 2018 (“Financial Summary (Unaudited)”). It is possible to state that Procter & Gamble is not appropriate for short-term investments to receive immediate gains, but it should be regarded for long-term investments because the company regularly increases dividends adding to shareholders’ confidence in its stability.

Recommendation

The recommendation regarding Procter & Gamble’s stocks is to hold the shares of the company while being oriented toward the price target is $98 in the next 12 months in contrast to the current price that is over $100, and it tends to change. Referring to the company’s historical and projected earnings, as well as the valuation analysis, it is possible to state that the target price in $98 reflects the fair value of the stock to guide investors’ decisions.

Currently, the shares are traded significantly higher than the target price, and it is possible to state that the stock is overvalued; therefore, selling shares is not recommended (“The Procter & Gamble Company (PG)”). Thus, buying stocks is advisable when reaching the target price. Currently, the price per share is high, but the volume is falling, indicating potential changes in the situation.

Company Update

In January 2019, Procter & Gamble released the results of the second quarter of the 2019 fiscal year. The company has demonstrated the increase in organic sales by 4%, and the increase in core earnings per share was 5%, to $1.25 in contrast to the predicted $1.21 (“P&G Announces Fiscal Year 2019 Second Quarter Results”). These numbers indicate positive changes in the company’s operations concerning its readiness to return cash to investors. Previous decreases in organic sales made the company focus on this aspect to achieve positive changes. It is possible to state that the company’s position in the market remains to be comparably stable as it has reached its top and bottom lines, but the changes in trading the stock are still difficult to be forecasted.

Investment Thesis

Currently, Procter & Gamble is demonstrating an unexpected increase in the price per share that can be described as an all-time high. The company overcame the decreases in organic sales and the overall sell-off in the market. However, Procter & Gamble has demonstrated better performance than being expected (“P&G Announces Fiscal Year 2019 Second Quarter Results”). From this perspective, as the company is discussed as a defensive leader in the industry that can cope with the periods of recession while remaining stable, it is possible to observe the following growth in the price.

Furthermore, there are perspectives for future increases in sales as Procter & Gamble plans to invest more in innovation and improvement of the quality of its goods. Still, at this stage, investors should remain neutral in their decisions and focus on holding shares because the overall situation regarding the company’s short-term profitability remains unclear although long-term perspectives seem to be advantageous for shareholders (“The Procter & Gamble Company (PG)”). Within several months, it is possible to expect increases in the price per share or, on the contrary, the stock will underperform.

During the recent months, it is possible to observe the negative price versus commodity gap concerning Procter & Gamble’s products. The company had to increase prices for Pampers Charmin, Bounty, and Puffs, and these activities were perceived by economists and consumers positively (“P&G Announces Fiscal Year 2019 Second Quarter Results”). However, the market trends observed in the late part of 2018 and the early part of 2019 indicate that the company will have a negative commodity cost versus price gap in the 2019 fiscal year. The company is oriented toward improving its organic sales in 2019 and the overall performance can also be advanced (“The Procter & Gamble Company (PG)”).

These aspects influence the decision of avoiding buying or selling the shares at the current stage because there are potentially higher increases in the stock price depending on Procter & Gamble’s strategies. These aspects of the company’s operations and strategy, as well as tendencies in the stock market, can potentially influence the price per share, and it will probably be stabilized at the level of $96-$98 within the next 12 months.

Financial Analysis

To examine the financial performance of Procter & Gamble, it is necessary to conduct the financial ratio analysis. The company’s liquidity can be assessed regarding the current ratio (current assets to current liabilities that equals 0.83), quick ratio (current assets without inventory to current liabilities that equals 0.66), and cash ratio (cash with cash equivalents to current liabilities that equals 0.42) (“Procter & Gamble Co.”). These ratios are lower than 1 that indicates that Procter & Gamble can have certain difficulties in meeting its short-term obligations, and it can experience problems with paying its debt.

While focusing on the company’s profitability, it is necessary to pay attention to the gross margin ratio, return on assets, return on equity, and return on total capital. The gross margin ratio (gross profit to revenue) for Procter & Gamble is about 50% which is appropriate for the company about the industry tendencies. Return on assets (net income to average total assets) for the firm is 8.17% that is comparably low and indicates certain weaknesses in the strategies oriented toward increasing the company’s profitability.

Procter & Gamble’s return on equity (annual net income to shareholders’ equity) is 18.14% that is correlated with the industry’s trends. Return on total capital (total earnings to total capital) concerning the firm is 17.23%, which is lower than expected (“Procter & Gamble Co.”). The overall profitability of Procter & Gamble can be described as tending to deteriorate in comparison to the company’s data for 2016 and 2017, but it still addresses the industry’s trends.

The assessment of leverage ratios should be performed regarding total debt to total equity (60.96%), total debt to total capital (37.43%), and total debt to total assets (26.44%) (“Procter & Gamble Co.”). The company’s total debt to total equity is rather high, and in this case, the lower ratio is more preferable. Total debt to total capital and total debt to total assets is comparably low in the context of the industry (“Procter & Gamble Co.”; “The Procter & Gamble Company (PG)”). These ratios indicate that Procter & Gamble has enough capital and assets to address its debt and liabilities.

The market values ratios include the price-to-earnings (P/E) ratio, the price to sales ratio, and the enterprise value (EV) to sales ratio. Procter & Gamble’s current P/E ratio is 27.61, which indicates that the company has a higher ratio than the average one within the industry (“Procter & Gamble Co.”). This aspect can support the idea that investors of Procter & Gamble are inclined to expect rather high earnings, but in the case of this company’s current changes in the price per share, it is possible to speak about overvaluing the stock.

The price to sales ratio is 3.10 that indicates that the investment can be described as favorable because it is lower than 4. The EV to sales ratio is 3.97, and it indicates that Procter & Gamble’s stocks are potentially overvalued at the current stage (“Procter & Gamble Co.”). As a result, this ratio should be viewed as not attractive to investors.

Financial Information and Valuation

The recommendation is based on the forecast regarding Procter & Gamble’s income statement, cash flow, and balance sheet in 2019. It is possible to predict the growth by 0.1% in the company’s sales and the growth by 2% in organic sales. The operating income margin will potentially increase from 21.6% in 2018 to more than 22% by the end of 2019 (“Procter & Gamble Co.”). Total shareholders’ equity will probably increase from $52,883 billion in 2018 to more than $53,500 billion by the end of 2019.

The net income will increase from $11,204 billion in 2018 to more than $11,500 billion in 2019 (“P&G Announces Fiscal Year 2019 Second Quarter Results”). By using the CAPM financial model, it is also important to calculate the cost of equity related to the company’s operations.

The yield to maturity for 10-year Treasury bonds has been taken as the risk-free rate, and currently, it equals 2.6%. The company’s yield to maturity on non-callable 10-year obligations has been used as Procter & Gamble’s cost of debt capital; and currently, it is 3.994% (“Bonds”). Referring to the risk-free rate, the company’s beta of the asset, and the expected return of the market, it is possible to calculate the cost of equity: 2.6% + (0.22 x 6%) = 3.92%.

The cost of equity almost equals the cost of debt concerning Procter & Gamble. The low cost of equity allows the company to spend fewer resources on raising its capital (“The Procter & Gamble Company (PG)”). Instead, Procter & Gamble can have comparably high returns on investment. According to these financial data, investors can also expect higher returns in the future in comparison to the current situation.

Valuation

To evaluate stocks, it is necessary to use two stock valuation methods, such as the valuation of the free cash flow to the firm (FCFF) and enterprise value (EV) to earnings before interest, tax, depreciation, and amortization (EBITDA). While referring to Procter & Gamble’s financial information related to 2018, it is possible to determine and forecast free cash flows. The valuation method based on FCFF is applied by using the following formula: FCFF = CFO + Int(1 – Tax rate) – FCInv, where CFO is the cash flow from operations, Int(1 – Tax rate) is referred to as the after-tax interest expenses, and FCInv represents a fixed capital investment.

After applying this formula and calculating the results using available financial data, it is important to focus on FCFF in $11,528 million for twelve months that ended in December of 2018. In comparison to the data for 2017 ($9,369 million), there is a growth of 17%, and it is also possible to expect further growth in FCFF for the next fiscal year (“The Procter & Gamble Company (PG)”). The company demonstrates a positive trend concerning the power of its real earnings, and this aspect is advantageous for discussing the company’s potential growth in the long-term perspective.

The other valuation method to apply to Procter & Gamble is the calculation of EV/EBITDA to analyze the company’s overall profitability and progress without focusing only on stocks. This valuation method is appropriate because it is based on using pre-interest earnings, as well as depreciation and amortization costs. By using EV and EBITDA provided for Procter & Gamble on the websites with financial data, it is possible to calculate the relation.

The current EV for Procter & Gamble is $279,171 million, and EBITDA is $18,546 million, and the current EV/EBITDA is 15 (“The Procter & Gamble Company (PG)”). This figure is higher than the company’s historical median of 13.70, but it is lower than the EV/EBITDA of more than 50% of other companies in the industry. For 2019, 2020, and 2021, it is possible to predict the following changes in EBITDA for Procter & Gamble: about 19,000 million, about 20,000 million, and about 21,000 million accordingly. As a result, within the next several years, the company can demonstrate further growth while referring to its profitability.

Risk

While discussing the company’s stock attractiveness, it is possible to note that the associated risks are low, and the company offers rather defensive stocks for its potential investors. However, despite positive trends observed concerning increasing the price per share, it is important to note that, currently, Procter & Gamble is not appropriate for investing. The following risks associated with this situation should be listed as affecting investors’ decisions.

  1. The price per share will potentially depend on the macroeconomic factors influencing the company’s sales and possible pricing fluctuations (“The Procter & Gamble Company (PG)”).
  2. The current price per share is higher than the proposed target, and this aspect indicates the impossibility to gain high returns in the short-term perspective, but an investor can be interested in long-term profitability.
  3. According to the predictions for the price per share for 2019-2024, the price will decrease by the end of 2019 despite its potential growth during the next three months. The maximum price of $105 will be achieved by the end of 2024 fiscal year (“The Procter & Gamble Company (PG)”). These forecasts demonstrate that it can be inappropriate and risky to buy or sell stocks at the current stage of the price change.
  4. Procter & Gamble’s operations highly depend on excessive liabilities, and that aspect leads to decreasing and preventing its organic growth (“Procter & Gamble Co.”).
  5. The company’s actual sales are lower than projected ones as well as the sales of the competitors (“Procter & Gamble Co.”; The Procter & Gamble Company (PG)”).
  6. The additional risk that needs to be taken into account is that the leverage dependence of the company is continuously growing (“Procter & Gamble Co.”).

Conclusion

Procter & Gamble can be discussed as an appropriate choice for making long-term decisions to save investments and make them stably growing. The current financial situation related to the company indicates that there are some risks of downturns that can influence immediate investment decisions and short-term profitability. However, in the long-term perspective, the company’s financial state is appropriate, and it will be highly dependent on Procter & Gamble’s strategy regarding the improvement of organic sales within the next 12 months.

Referring to the conducted financial and valuation analyses, it is possible to recommend investors hold the shares because the current trend of increasing the price per stock concerning Procter & Gamble cannot be considered as steady. It is possible to expect both losses and future rises within a short time.

Works Cited

.” FINRA. 2019. Web.

“Financial Summary (Unaudited).” P&G, 2019. Web.

“P&G Announces Fiscal Year 2019 Second Quarter Results.” P&G. 2019. Web.

Market Watch, 2019. Web.

Yahoo Finance, 2019. Web.

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IvyPanda. (2020, December 5). The Procter & Gamble Company: Investment Analysis. Retrieved from https://ivypanda.com/essays/the-procter-amp-gamble-company-investment-analysis/

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"The Procter & Gamble Company: Investment Analysis." IvyPanda, 5 Dec. 2020, ivypanda.com/essays/the-procter-amp-gamble-company-investment-analysis/.

1. IvyPanda. "The Procter & Gamble Company: Investment Analysis." December 5, 2020. https://ivypanda.com/essays/the-procter-amp-gamble-company-investment-analysis/.


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IvyPanda. 2020. "The Procter & Gamble Company: Investment Analysis." December 5, 2020. https://ivypanda.com/essays/the-procter-amp-gamble-company-investment-analysis/.

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IvyPanda. (2020) 'The Procter & Gamble Company: Investment Analysis'. 5 December.

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