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Slow but steady Qualiport stalwart Unilever (LSE: ULVR) has been in the news today, with the announcement of two corporate acquisitions. Firstly, the purchase of the privately-owned American SlimFast Foods. SlimFast are a major player in the "nutritional supplement and weight management category" -- that's the diet food industry to you and me.
Aaaaaaaaaaaaaaaaaaaaaaaaargh!
That's better. I just had to get that off my chest.
So what on earth am I screaming about? I'll tell you what. Flippin' Pokemon!
After banging on about the merits of Games Workshop (LSE: GAW) and then quickly emphasising that Games Workshop was not your typical general retailer or toy manufacturer, but instead a "wargaming franchise", the company goes and does the unthinkable. It goes and issues a profit warning blaming Pokemon days after my bullish write-ups. D'oh!
Let's take a step back first. The Qualiport aims to buy great companies at fair prices. But, when we say "a great company", what do we mean? Putting aside the financial characteristics, there are a couple of attributes I like to see of any prospective investment's products or services. Firstly, the product should be a "must-have". Items such as food or insurance or banking services are pretty much necessities for most people. Come rain or shine, economic boom and bust, there will still be a requirement for those items. That requirement partly leads to the predictability of your company's future profits.
Then there is the "repeat purchase" factor. If your products have to be bought on a regular basis, then again, that leads to the predictability of your company's future profits. Manufacturers of razor blades have fairly reliable income streams. Manufacturers of beds don't.
And finally, material avenues for growth. The greatest long-term investments of the past all capitalised on significant industry growth. All the repetitive must-have sales are of little consequence to the long-term investor if your company can't find any new customers.
Couple all those considerations with little or no competition, and you have found a company living in a stock market Utopia.
In retrospect, when considering Games Workshop, I concentrated firmly on its "moat", or the high barriers that prevented others from competing directly against the company. Games Workshop had no comparable direct competition in its niche market. The company also had a great sales record throughout the 1990s, turning sales of £10m into £72m within the decade, and appeared to have appealing revenue prospects in the US. There was even a tenuous repeat purchase factor as well: spotty teenagers buying their goblins every Saturday morning. With all these factors, well what could go wrong?
Of course, it appears the "must have" qualities of Games Workshop are not quite as intact as I first thought. As Games Workshop state in their warning: "We believe the deterioration in UK retail is primarily due to the launch and success of the Pokemon trading card game. This has drained an element of the discretionary "pocket money" spend which, we believe, would otherwise have been spent on Games Workshop products."
I guess it's no good having a business "moat", if your customers suddenly find a cheaper, and "indirect" substitute elsewhere. My thoughts about the sustainable retail advantage of Games Workshop are, to be frank, in tatters. Although the Pokemon phenomenon may come and go, there's nothing to stop another such "craze" appearing further down the line. Again, Games Workshop, would no doubt suffer then. In years gone by, I assume any past crazes must have gone undetected, submerged by the rapid roll-out of new company stores. Now that the UK is about full to capacity with outlets, the sudden swing away from Games Workshop's products is all the more apparent.
Perhaps, in terms of their UK retail outlets, Games Workshop are just like any general retail investment. As fashions, fads and competition come and go, so a typical retailer only has a short-term advantage over its rivals. If Pokemon disappears as quickly as it arrived, then Games Workshop could become a rapid recovery play.
But dabbling in niche recovery retailers isn't the Qualiport style. Games Workshop may have some hidden "intangibles" that may, or may not, be exploited to their full in the new media age. But punting on the success of the new Games Workshop film isn't the Qualiport style either. Also, at some point the Games Workshop share price may become so despondent that it tempts a predator, but again, that's no reason for the Qualiport to continue monitoring the company.
Now that the fickle tastes of teenage boys have clearly demonstrated the lack of long-term predictability in Games Workshop products, I'm officially ditching the company from further Qualiport consideration. I'm just thankful that the profit warning came sooner rather than later.
Unilever
On the face of it, SlimFast looks a relatively good business. Sales at the business have grown from $390m in 1997 to $611m in 1999, while operating profits of $125m last year led to very chunky margins of 20.5%. Unilever suggest that the market for diet foods is growing at 20% per annum. But the Qualiport underperformer isn't getting any bargain: it's paying $2.3b for SlimFast, which values the US firm on a price to earnings ratio (P/E) in the high 20s.
With 50% of the US and Europe deemed overweight by the World Health Organisation, there looks plenty of scope for SlimFast growth. But with the current revenues of SlimFast representing 1.5% of Unilever's 1999 revenues of £27b, taking on board SlimFast isn't going to change Unilever into a fast-growing company overnight.
And Unilever have finally put to bed the rumoured purchase of Ben & Jerry's Homemade (Nasdaq: BJICA), confirming the purchase of the premium US ice cream manufacturer this afternoon. Again, no great shakes in terms of the overall effect on Unilever, Ben & Jerry reporting a 1999 turnover of $237m (c£145m) and generating operating profits of just $13m (c£8m).
Given that this means Ben & Jerry's can only manage operating margins of under 6%, there seems to be a significant opportunity for Unilever to create truly premium margins within this business. Add in the fact that Ben & Jerry's is a surprisingly small company given its well-known name, there is probably plenty of scope for Unilever to exploit the full brand potential worldwide. Like their ice cream, Ben & Jerry's didn't come cheap. Unilever's payment of $326m equates to a P/E of 36.
As I wrote after Unilever's results in February, there does appear to be some earnings growth in the company tank. With pedestrian sales and volume growth, cost-cutting will be the main driver of future profit increases. Taking the lead from Unilever's stated aim of sales and margin prospects for the next five years, I calculated back in February that a prospective share price of 691p, collecting 70p in dividends on the way, could be reached in 2004. Good enough reason to hang on to Unilever?
Having said when the shares were under 350p that I'd chuck Unilever off the good ship Qualiport should the company ever reach the "fair value" price of around 470p, a sudden stock market spurt has seen Unilever climb to the dizzy heights of 422p.
Now that our "sell price target" could be a distinct, rather than a distant, possibility, my feet are getting slightly cold over the "sell" decision. The reasoning is short and simple. At the moment, the companies the Qualiport aims to purchase, ones that have a proven growth record and material sales prospects, are all priced to the sky.
So, would sitting on cash for what could be a considerable amount of time be preferable to holding onto the slow, but slightly upwardly mobile Unilever? Perhaps not. Rather than holding cash, or looking at companies that have more speculative growth prospects, should the Qualiport instead hang on to benefit from Unilever's cost-cutting profit growth?
Let us know you thoughts over on the Qualiport discussion board.
Related Links
• The Predictability of Washing Powder
• Any Reprieve for Unilever?
• Games Workshop for the Qualiport?
• Toying with Games Workshop
• Games Workshop discussion board
• Unilever discussion board