Prior to the last few months, having exposure to emerging markets was viewed as a major plus by most investors. That’s because countries such as China have far superior growth rates than the developed world and, as such, there is huge profit potential from companies that are trading in them.
Today, however, the investment world is less convinced about companies that have looked to such markets. Certainly, the growth potential is still very strong, but the timeframe for delivery of that growth may be in the process of extending, which means that it could be a rather longer road to riches than many companies and their investors had previously believed.
Very bright
Despite this, companies such as Unilever (LSE: ULVR) and Prudential (LSE: PRU) have huge long term growth potential. In the case of Unilever, it generates around 60% of its revenue from emerging markets and, with the number of middle class consumers in such markets due to rise significantly in the coming years, there is a major growth opportunity on offer for consumer goods companies such as Unilever.
In fact, it is estimated that between 2014 and 2030 there will be an additional 326m Chinese middle class urban dwellers. And, while staple products will continue to grow in popularity, the highest levels of growth may be in the more aspirational, premium consumer products in which Unilever specialises. So, even though Unilever’s price to earnings (P/E) ratio of 21.8 is relatively high, growth in earnings of 13% in the current year indicates that its long term future remains very bright.
Major upside
Similarly, Prudential has an opportunity to benefit from its strong position within Asian markets. Although wealth in that region has risen in recent years, financial products are not yet as widely used as might be expected. As a result of Prudential’s wide range of products and services, it has the scope to fill a current void as well as benefit from the growth in the number of middle-income earners across Asia.
Despite this, Prudential’s shares have disappointed this year. They have fallen by 5% in the last six months and were hit hard by the August correction. With the company’s financial performance being exceptionally stable — Prudential has increased earnings at an annualised rate of 15% during the last five years — a P/E ratio of 13.9 indicates major upside.
Increased risk
Although PZ Cussons (LSE: PZC) also has significant exposure to emerging markets, and has excellent long term growth potential, its dependence on one main economy increases its risk profile. While Nigeria has a very bright future, it has struggled in recent years with political challenges as well as slower than expected growth. As such, PZ Cussons has experienced a volatile bottom line which is only forecast to rise by 2% in the current year.
Clearly, 2% growth would represent progress versus the flat net profit figure delivered last year, but it does not appear to justify the company’s P/E ratio of 16.3. That’s especially the case when its sector peer Unilever has a wider range of brands, better growth potential and more diversified geographical exposure. Therefore, at the present time it may be best to watch rather than buy PZ Cussons.