03 August 2010

PG: Income Statement Analysis for the June 2010 Quarter

Procter & Gamble (NYSE: PG) earned $0.71 per diluted share in fiscal 2010's fourth quarter, which ended 30 June.  Earnings per share decreased 11 percent when compared to the $0.80 P&G made in the same quarter of 2009.

Core EPS, a non-GAAP measure that excludes certain items, fell from $0.78 to $0.71.

This post examines P&G's Income Statement for the quarter and compares the entries on each line to our "look-ahead" estimates.  Reported earnings were a disappointing $0.06 less than the $0.77 per share we had forecast.

The principal sources for this income statement analysis were the earnings announcement and the conference call (transcript courtesy of Seeking Alpha).

In a second article, we will report P&G's scores as measured by the GCFR financial gauges.  The follow-up post will provide the latest figures for the various financial metrics we use to analyze Cash Management, Growth, Profitability and Value.

Before getting into the details, we will take a step back to introduce the subject of today's analysis.

Procter & Gamble, which traces its roots back to 1837, creates and markets many well-known branded consumer staples to customers around the world.  P&G has three global business units:  Beauty and Grooming, Health and Well-Being, and Household Care. 

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 more than 50 consecutive years, is an S&P 500 Dividend Aristocrat.  P&G is also number 6 on Fortune Magazine's 2010 list of the World's Most Admired Companies

Additional background information about P&G and the business environment in which it is currently operating can be found in the look-ahead

Please click here to see a normalized depiction of the actual and projected results for the just-concluded quarter, as well as restated quarterly Income Statements for the last couple of years.  After selling its pharmaceuticals business to Warner Chilcott (NASDAQ: WCRX), P&G restated some historical financial statements to depict the pharmaceutical results as a discontinued operation.

Also 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.

Revenue in the June quarter increased 4.7 percent, from $18.1 billion last year to $18.9 billion in the most recent three months.  This rise was less robust than P&G's guidance to expect revenue growth between six and seven percent.

Revenue missed our $19.25 billion estimate by 1.7 percent.

P&G attributed sales growth to "new product innovation, increased marketing spending and incremental merchandising support."  The volume of products sold increased a laudable 8 percent, "driven by growth in all business segments, regions, and key countries."  Volume growth was 5 percent in developed markets and 12 percent in developing markets.

Organic sales, which excludes the effects of acquisitions, divestitures and foreign exchange, grew at a more modest 4 percent. 

Sales rose the most, 14 percent, at the business unit selling Grooming products.  The company's Fabric Care and Home Care business was the laggard, reporting nearly flat sales relative to the June 2009 quarter.

The Cost of Goods Sold was $9.56 billion, or 50.5 percent of Revenue.  This ratio translates into a Gross Margin of 49.5 percent, 50 basis points higher than last year's 49.0 percent.  We had (too optimistically as it turned out) projected that the Gross Margin would be 50.75 percent.  The actual Gross Margin fell short of our estimate by 125 basis points.

"Manufacturing cost savings, partially offset by unfavorable product mix and higher commodity costs" led to the Gross Margin expansion, according to P&G.

Sales, General, and Administrative expenses increased a sizable 17 percent to $6.4 billion.  P&G stepped up its spending by far more than we expected, as the company sought to improve market share (despite the relatively weak global economy) and to support new and improved products.

The latest SG&A expense exceeded our $6.06 billion estimate by 5.9 percent.

SG&A increased from 30.3 percent of Revenue in the June 2009 quarter to 33.9 percent in the most recent period, a steep jump.

Subtracting the various operating expenses from Revenue yields Operating Income of $2.95 billion, a substantial 12.7 percent less than last year's $3.38 billion.  Operating Income for the quarter was 20.4-percent weaker than our $3.71 billion estimate.  The Operating Income figure was below par primarily because of higher SG&A costs, but Revenue and the Gross Margin were also less than expected.
The $333-million net expense for Interest and other items was $44 million more than in the same period last year, and it was $100 million more than our $230 million estimate.   The expense was greater than expected because "other non-operating income" was negative $121 million.

The 16.5-percent effective income tax rate was unexpectedly low.  P&G attributed the low rate "to favorable impacts of a foreign audit resolution and other tax items and tax benefits related to exercising the call option on an outstanding bond."

At the bottom line, Net Income fell 11.6 percent to $2.19 billion ($0.71 per diluted share), compared to earnings (including discontinued operations) in the year-earlier quarter of $2.47 billion ($0.80 per share).  Net Income was less than our $2.39 billion ($0.77 per share) estimate by about 8.5 percent.

In summary, Revenue rose on strong volume growth as the company worked to expand market share in developed and emerging regions, but the revenue increase was a little less than expected.  Substantially higher SG&A expenses to support the sales push reduced Operating Income.  A lower-than-expected income tax rate mitigated some of the shortfall, but earning per share were still rather less than projected.

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


  1. Does it concern you that so much of their earnings was due to the unusually low tax rate? If the tax rate had been more in line with their historical rates of around 31%, their earnings per share would have only been approximately $.59

  2. Yes, I also calculate earnings of $0.59 per share -- a significant miss -- if we change the income tax rate to 31 percent and leave everything else the same. I would sure like to see a clearer description of the realized tax benefits than the statement in the earnings announcement quoted above. We can hope that the 10-K will provide this clarity. Thanks for writing!