Qualiport

[ September 17, 1999 ]

Unilever v P&G

By Rob Davies (TMFEssex)

Unilever (LSE: ULVR) is the worst performing share in the Qualiport portfolio, with a fall of 23.6% or £522 since the shares were purchased in July 1998. That is after accounting for the special dividend of 66p paid earlier this year.

Although disappointing, and it doesn't match some of the horrors in my portfolio (RJB (LSE: RJB) to name but one), it should be placed in the context of a torrid time for the sector. The FTA Food Producers and Processors Index is down 9% over the same period, but as Unilever makes up 46% of this index its decline is perhaps not surprising. Nevertheless, the sector has had a torrid time and PIC International (LSE: PIC) takes the wooden spoon with a fall of 74% in the last 12 months.

Food prices, as any farmer will tell you at length, are horrific, and any company involved in the food chain is struggling to cope with such a deflationary environment.

Nor is this phenomenon confined to the UK. Unilever's arch rival Procter & Gamble (NYSE: PG) has gained 10% over the last 12 months, but has underperformed the US market. Looking at the data for the two companies is instructive. But it must be emphasised that these numbers are taken straight from Bloomberg without any adjustments -- except for the gearing ratio, where we have allowed for the special dividend.

This table compares the major ratios for the two companies:

Ratio             ULVR    P&G

Sales Growth      -4.8%   2.6%
Gross Margin      44.83  44.38%
Operating Margin  10.6%  16.4%
Price/Book         5.7    2.9
Price/Sales        0.69   3.47
Return on Assets   9.58% 11.93%
P/E               21.68  35.13
Gearing            0.0%  91.28%

Both companies have similar data, apart from the balance sheet. Even after Unilever's £4b special dividend it has not net debt (the cash pile arose from the sale of its speciality chemicals division). There is no doubt that the US company has better margins; better growth and, consequently, a much higher valuation. But it is a moot point whether the six percentage points on the operating margin mean that a price to book ratio for P&G over twice that of Unilever is justified.

What is clear though is that both companies are trying to restructure their businesses. P&G has already done so, and Unilever announced earlier this month that it was going to change its business to get more growth. Its aim is to raise organic sales growth from 2% to 4% to match P&G. Even after the special dividend it still had has a strong balance sheet and could make a large acquisition if it wanted to. However, we have seen other companies come to grief buying businesses to cover up low organic growth. It is encouraging that Unilever is resisting this.

A widely paraded fact is that Unilever has 1,000 products that only generate 8% of the revenue. Most of its revenues come from 500 to 600 key brands but managing all these brands is obviously expensive. One reason Coca-Cola (NYSE: KO) achieves gross margins of 70.44% is that is has only a few key products. Unilever has a difficult act to balance the needs of volume growth through a wide range of products with the requirement to grow margins by reducing costs and shrinking the product range.

Procter & Gamble is now trying a new approach to this problem. It is changing the fee structure it has with its advertising agencies to ones that relate fees to growth in product sales. The old scheme was based purely on the size of account, with little encouragement for the advertising companies to design an ad that worked. Rather, it actively encouraged large budgets.

If P&G has gone down this route, can Unilever be far behind? More importantly, will it be sufficient for either companies to raise their growth rates? In a world of low inflation and high competition, can they both do it at the same time?

One avenue of growth that is open to both is emerging markets. Unilever makes 33% of its sales in these markets that should be high growth in the long term, whereas P&G makes only 17% of its sales in those areas. This might be Unilever's hidden strength.

On the question of which is cheaper and has the best growth markets, it seems that Unilever comes out more favourably. However, the question the investor might want to ask is "Do I want to be in these highly competitive markets at all?"

What do Fools think of this question? And, more importantly, what do they think they the answer is? Tell us on the Qualiport board.

Qualiport Numbers
17/9/1999 Close

Company  Change    Bid
DELL(US)+0.10    46.60
EMA     -0.33     9.62
IIG      0.00     2.82
MSY     -0.17     5.65
PIZ     +0.20     8.45
RTO     +0.01     2.36
ULVR    -0.04     5.71


Qualiport Stocks

Last Rec'd  Total # Company    Buy  Current Change

 27/10/98   755     Indep Ins  2.58  2.82     9.3%
 04/11/98   245     Pizza Exp  7.93  8.45     6.6%
 27/01/99    74     Dell (US) 44.63 46.60     4.4%
 22/04/99   347     Misys      5.76  5.65    (1.9%)
 19/12/97   783     Rentokil   2.55  2.36    (7.5%)
 17/04/98   169     EMAP      11.34  9.62   (15.2%)
 17/07/98   266     Unilever   7.53  5.71   (24.1%)

Last Rec'd  Total # Company     In At  Value   Change

 27/10/98   755     Indep Ins  1972.64 2129.10  156.46
 04/11/98   245     Pizza Exp  1966.34 2070.25  103.92
 27/01/99    74     Dell (US)  2007.42 2089.94   82.52
 22/04/99   347     Misys      2028.71 1960.55  (68.16)
 19/12/97   783     Rentokil   2046.53 1847.88 (198.65)
 17/04/98   169     EMAP       2341.32 1943.24 (398.08)
 17/07/98   266     Unilever   2052.00 1518.86 (533.14)

Cash:                                       £3,433.46
Current Total :                            £16,993.28

Total Invested:                            £18,184.62
Profit/(Loss) :                            (£1,191.34) 

Value Per Share

                    Day      Month      Year      
Qualiport         -0.44%     1.00%     -9.64%
FTSE 100           0.42%    -3.31%      2.67%
FTSE All Share     0.38%    -3.15%      6.46%