Procter & Gamble

Over the past 10 fiscal years, Procter & Gamble’s dividend has increased substantially, rising from $1.80 per share in fiscal year 2010 to $3.03 per share in fiscal year 2020. Management has also returned a lot of capital back to shareholders, with the company returning around $135bn of value to shareholders over the past decade through a combination of dividend payments and share repurchases and exchanges. In the second quarter of fiscal 2021, the company returned $5bn in capital alone, with $2bn in the form of dividends and $3bn in terms of stock repurchases.

Over the past 10 years, Procter & Gamble stock has more than doubled due to a combination of dividend increases, capital returns, and the company’s overall strength as a result. If inflation remains about the same, I believe the stock could approximately double again. If inflation is higher than expected, I think Procter & Gamble could do even better given the company’s pricing power. With the expected price increases of existing products, overall market growth due to rising incomes, and potential productivity increases due to improving technology, I believe Procter & Gamble will continue its strong fundamental performance into the future.

With that said, there are still challenges. Unemployment is high in many places in the world and the pandemic remains ongoing. The long-term shift of commerce to digital could bring a new set of competition and management will need to continue to execute for its stock to do well.

Unilever

Like Procter & Gamble, Unilever shares have also more than doubled over the last 10 years as the company has continued to grow its customer base and build its portfolio of leading brands. As of 2021, Unilever certainly has a lot of both, with 2.5bn customers spread across 191 countries and a portfolio of 13 brands that do more than €1bn in sales each year.

Unilever also does well in countries that could grow substantially in the future. The company has the number one market position (among fast growing consumer goods companies) in India for example, and it also has a €3bn a year business in China. As those giant economies continue to develop, I think Unilever’s business in those countries and developing markets in general will likely continue to grow. If Unilever’s business grows, I think its stock price could benefit. Given the company’s potential, I think the stock could double again over the next 10 years.

Like Procter & Gamble, the long-term shift of commerce to digital could bring new competition to Unilever and management will need to continue to deliver the results that the market expects in order for the stock to do well. If margins or demand is weaker than expected, Unilever shares could have potential downside.

WASHINGTON, DC — The last few months have been a busy for Warren Buffett’s Berkshire Hathaway (NYSE: BRK-A.US) (NYSE: BRK-B.US ) and today we learned its buying spree continued.

It was announced yesterday Berkshire has come to an agreement with Procter & Gamble (NYSE: PG.US) to buy battery manufacturer Duracell in exchange for the $4.7 billion worth of Procter & Gamble shares Berkshire held.

The details

At the end of June, Berkshire held roughly 53 million shares of Procter & Gamble worth nearly $4.2 billion, and since then P&G has seen its stock rise by almost 15%, explaining the $4.7 billion price tag.

When P&G released its earnings for the first quarter of fiscal 2015, it also announced that it would be exiting the Duracell business, preferably through the creation of a stand-alone company. At the time of the announcement, P&G’s CEO A.G. Lafley said:

“We greatly appreciate the contributions of our Duracell employees. Since we acquired the business in 2005 as part of Gillette, Duracell has strengthened its position as the global market leader in the battery category. It’s a business with attractive operating profit margins and a history of strong cash generation. I’m confident the business and its employees will continue to thrive as its own company.”

Then, P&G noted the reason behind the move was “consistent with its plans to focus and strengthen its brand and category portfolio,” and that “its goals in the process of exiting this business are to maximize value to P&G’s shareholders and minimize earnings per share dilution.”

Today, P&G noted that the $4.7 billion price tag for Duracell would represent an adjusted earnings before interest taxes and depreciation, or EBITDA, of seven-times fiscal year 2014’s.

The rationale 

So, why would Buffett make such a move?

First, as highlighted by many news outlets like Bloomberg, similar to Berkshire’s previous deals in acquiring an energy subsidiary from Phillips 66 earlier this year, by exchanging P&G stock for the entirety of Duracell, Berkshire will be able to abstain from paying any capital gains taxes as if the P&G shares had been sold for cash.

Considering that the P&G stake stood on Berkshire’s books at a cost basis of just $336 million at the beginning of this year, the tax savings alone are a compelling value proposition for Berkshire Hathaway and its shareholders.

Also, knowing at heart Buffett’s always been a proponent of buying businesses at an appropriate price, the fact that the market traded at an 11.5-times EBITDA multiple in January of this year, according to the Stern School of Business at NYU, and the consumer electronics industry traded at nine-times EBITDA, then the $4.7 billion price tag seems more than reasonable.

In last year’s letter to Berkshire Hathaway shareholders, Buffett wrote that “more than 50 years ago, Charlie [Munger] told me that it was far better to buy a wonderful business at a fair price than to buy a fair business at a wonderful price.”

So, the consideration of the deal must extend beyond just the financial aspects of it. And Buffett’s words regarding the deal are quite telling.

In today’s announcement Buffett said:

I have always been impressed by Duracell, as a consumer and as a long-term investor in P&G and Gillette. Duracell is a leading global brand with top quality products, and it will fit well within Berkshire Hathaway.

It is of note that Buffett mentioned the Duracell brand first. One of my favorite Buffett quotesis:

“Buy commodities, sell brands” has long been a formula for business success. It has produced enormous and sustained profits for Coca-Cola since 1886 and Wrigley since 1891. On a smaller scale, we have enjoyed good fortune with this approach at See’s Candy since we purchased it 40 years ago.

And how is this applicable to Duracell?

Consider for a moment in its ranking of the Best Global Brands in 2014, Interbrand estimated that the brand value of Duracell stood at $4.9 billion, ahead of MasterCard ($4.8 billion) and narrowly trailing both Chevrolet and Ralph Lauren.

Said differently, Buffett paid less for Duracell — the company — than what one company estimated its brand value alone is worth.

Also, it isn’t just the Duracell brand that is compelling, but its business, too. P&G noted in its annual report that Duracell maintains over 25% of the global battery market share. And Interbrand noted in its report on the company:

“Duracell continues to respond to consumer demands through innovation and new product launches. New technologies in rechargeable batteries, longer lasting energy storage times (Duralock) and synergies with wireless iPhone charging (PowerMat) demonstrate responsiveness to a changing marketplace. Duracell is working to further increase its presence by forging retailer-specific partnerships and nudging competitors out of view in the process.”

Clearly, the company isn’t afraid of innovation, and it is responding to changing demands and desires of consumers.

The charge to the bottom line

We don’t know the details of how Duracell will fit in the massive empire that Berkshire Hathaway has become. But there is one thing we do know — to the delight of Berkshire’s shareholders — all signs indicate that Buffett has once again found another wonderful business at a fair price.

Today, I’m considering whether FTSE 100 consumer-goods giant Unilever (LSE: ULVR) (NYSE: UL.US) is a wonderful company, and whether its shares are trading at a fair price.

A wonderful company?

Buffett loves big, powerful businesses with great international brands. Which is why you’ll find Coca-Cola, Wal-Mart and Procter & Gamble (NYSE: PG.US) among the top six holdings of his Berkshire Hathaway investment company.

Procter & Gamble (P&G) is the world’s biggest consumer-goods group — and Unilever’s arch-rival. How does Unilever measure up against P&G for brand strength? Supremely well, according to brand-researchers Kantar.

P&G has eight brands in Kantar’s global top 50, led by Pantene at number seven. Unilever easily surpasses that with 15 top-50 brands, including three — Lifebuoy, Knorr, and Dove — in the top 10.

A high return on equity (ROE) is another Buffett hallmark of a wonderful company. P&G delivered a decent ROE of 16.6% for its latest financial year; but Unilever posted 29.6%.

Now, before we get too excited, Buffett doesn’t like to see too much debt at a company; and debt can inflate ROE. P&G and Unilever both have debt, but if we leave out the ‘equity multiplier’ component (the effect of debt) from their ROEs we can see how much each company would have earned if it were debt free.

In P&G’s case, 8.1% of its ROE was due to profit margin and asset efficiency, while 8.5% was due to returns earned on the debt at work in the business. In Unilever’s case, 9.7% was due to margin and asset efficiency, and 19.9% to debt.

Clearly, Unilever is doing a good job for shareholders of increasing the return on their equity by the use of debt. But also, on a debt-free basis, still comes out ahead of P&G. That leaves the question of whether Unilever’s debt is too high for it to be considered a wonderful company.

I don’t believe Buffett would view Unilever’s level of debt as an issue. Net gearing of 51% is higher than P&G’s 38%, but still perfectly reasonable. In fact, Unilever’s gearing is exactly the same as a UK share Buffett already happens to own!

A fair price?

Buffett values businesses as if he was buying the whole company.

EV/EBIT (enterprise value divided by earnings before interest and tax) is a simple whole-company metric that Buffett uses for a quick take on valuation. EV — a company’s market capitalisation, plus net debt (or minus net cash) — is the price he would have to pay to buy the whole company debt-free.

At a share price of 2,366p, Unilever is on an EV/EBIT of 12.6. This rating compares favourably with P&G’s EV/EBIT of 15.1. Therefore, I’d say Unilever not only measures up on Buffett’s key wonderful-company qualities, but also currently trades at a fair price.