14 June 2010

PG: Look Ahead to June 2010 Quarterly Results

This post describes our model of Procter & Gamble's (NYSE: PG) Income Statement for the fourth quarter of fiscal 2010, which will end on 30 June 2010.

The purpose of the model is to establish a baseline for identifying surprises, positive or negative, in the quarterly results the company will report.  Estimates for each line of the Income Statement are derived from management's guidance, the company's historical financial results, and other publicly available data.

We begin by reviewing background information about P&G and the business environment in which it is currently operating.

Procter & Gamble creates and markets many well-known Household and Personal products, which are Consumer Staples, to customers around the world.  The company, based in Cincinnati, traces its roots back to 1837.

P&G is organized into units that focus on a particular product category.  At the highest level, the company has three global business units:  Beauty and Grooming, Health and Well-Being, and Household Care.  Each GBU comprises two segments.

In the first three quarters of fiscal 2010, the Household Care GBU generated nearly half of P&G's net sales and earnings.

The company's most-valuable brands, which are responsible for the lion's share of sales and profits, include Always, Ariel, Bounty, Charmin, Crest, Dawn, Downey, Duracel, Fusion, Gain, Gillette, Head and Shoulders, IAMS, Mach3, Olay, Oral B, Pampers, Pantene, Pringles, Tide, and Wella. 

With such a broad product line, P&G has a lengthy list of competitors.  Colgate-Palmolive (NYSE: CL), Kimberly-Clark (NYSE: KMB),  and Unilever (NYSE: UL) are a few of the better known rivals.  Consumer products compete at large and small retailers on price, quality, features, and marketing.  P&G has long been a top advertiser

P&G adds and divests brands regularly, generally aiming to improve growth, use capital more efficiently, and exploit synergies.  The company acquired razor-titan Gillette in October 2005 for $57 billion.  P&G sold the Folgers coffee business in 2008 to J.M. Smucker (NYSE: SJM).  In August 2009, P&G agreed to sell its pharmaceutical business to Warner Chilcott (NASDAQ: WCRX).  In December 2009, P&G agreed to acquire Ambi Pur, "a leading global air care brand," from Sara Lee (NYSE: SLE) for about $470 million.

P&G's reported Net Sales of $79 billion in fiscal 2009, which ended last June.  Laundry and diaper products were responsible for 17 percent and 11 percent, respectively, of sales, according P&G's last 10-K.  Sales to Wal-Mart Stores (NYSE: WMT) and its affiliates produced about 15 percent of P&G's Revenue.

The company's market capitalization is currently around $175 billion, which makes P&G the sixth-most valuable U.S. corporation.

P&G, having raised its dividend for 53 consecutive years, has certainly earned its place on the list of S&P 500 Dividend Aristocrats.  P&G is also number 6 on Fortune Magazine's 2010 list of the World's Most Admired Companies.

A fundamental aspect of P&G's strategy is to invest in Research and Development -- roughly $2 billion annually, conducted internally and externally -- to create innovative products deserving of premium pricing and brand loyalty

In the last decade, P&G made an effort "to extend the availability and affordability of P&G brands to more low-income consumers, particularly in developing markets."  In 2009, 32 percent of the company's total sales were in developing markets, up from 20 percent ten years earlier.

P&G's financial challenges include fluctuations in commodity prices and currency conversion rates.

in the third quarter of fiscal 2010, which ended 31 March, P&G earned $0.83 per diluted share, $0.01 less than the $0.84 P&G made in the March 2009 quarter.  Earnings from continuing operations increased from $0.78 to $0.83 per share in the March quarter.  Core EPS, a non-GAAP measure, rose from $0.81 to $0.89.

Now, we are ready to look ahead to P&G results for the June 2010 quarter.

In the earnings announcement released in April 2010, P&G updated its sales and earnings forecasts for fiscal 2010 and the fourth fiscal quarter.

Fiscal Year 2010 Guidance

Net sales growth is estimated to be three to five percent for fiscal year 2010. Foreign exchange is not forecast to have a material impact on net sales. The Company raised the low end of its guidance range for diluted net earnings per share by $0.04 to a range of $4.06 to $4.12. Diluted net earnings per share from continuing operations are expected to be $3.48 to $3.54. Core EPS guidance increased to $3.62 to $3.68, up from $3.53 to $3.63, reflecting strengthening top line results and robust cost and productivity efforts. Core EPS is expected to be up four to six percent versus year ago.

April - June 2010 Quarter Guidance
For the April - June quarter, net sales are expected to increase six to seven percent. Organic sales are expected to grow four to five percent. Foreign exchange is expected to contribute about two percent to net sales growth. The net impact of acquisitions and divestitures is not expected to have a material impact on net sales. Diluted net earnings per share, diluted net earnings per share from continuing operations and Core EPS are each expected to be $0.68 to $0.74

[emphasis added]

A 6-to-7 percent growth rate for the quarter would translate into Net Sales, or reported Revenue, between $19.17 billion and $19.35 billion.  We decided to use the mid-range figure of $19.25 billion as our target for Revenue in the June quarter.

P&G's Gross Margin is almost always lower in the June quarter than in the three preceding quarters.  Based on historical patterns, we have estimated that the Gross Margin in the June 2010 quarter will be 50.75 percent.  This compares to margins of 51.9 percent, 53.7 percent, and 52.6 percent in the three previous quarters.  Therefore, our estimate of Cost of Goods Sold is (1 - 0.5075) * $19.25 billion = $9.5 billion.

SG&A expenses have been over 31 percent in each of the last two quarters.  We will look for 31.5 percent in the June quarter, or 0.315 * $19.25 billion = $6.1 billion.

These assumptions would lead to Operating Income of $3.7 billion, which is 9.6 percent more than the comparable amount in the year-earlier quarter.

We expect net non-operating expenses of $230 million, and, therefore, pretax income of approximately $3.5 billion.

We're using last quarter's 31.3 percent effective income tax rate, which would lead to a tax provision of $1.1 billion.

Rolling up these figures, we're looking for Net Income from continuing operations of $2.4 billion ($0.77/share).  In last year's June quarter, P&G earned $2.47 billion ($0.80/share).

Please click here to see a full-sized, normalized depiction of the projected results next to P&G's quarterly Income Statements for the last couple of years. [As a consequence of the sale of the pharmaceuticals business, P&G restated some historical financial statements to reflect the pharmaceutical results as a discontinued operation.  We used this information from the company to update our spreadsheets, making estimates where official data was not readily available.] 

Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.

Full disclosure: No position in PG at time of writing.

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