How Safe Is Your Money In Unilever plc?

This Fool explains why he has been taking advantage of the emerging market slowdown to double up on Unilever plc (LON:ULVR).

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The sell-off in emerging markets has hurt Unilever (LSE: ULVR) (NYSE: UL.US), whose share price is now down by 19% from its 52-week high of 2,908p.

Would-be sellers might regret their missed opportunity, but from an income perspective this is a major improvement — Unilever shares now offer a market-beating yield of 3.8%, and I recently topped up my holding.

However, the firm’s earnings per share are only expected to grow by 1.6% this year, and this slowing growth could present a risk to shareholders. Are Unilever’s finances strong enough to cope without any risk of a dividend cut? To find out more, I’ve taken a closer look at three of Unilever’s key financial ratios.

1. Operating profit/interest

What we’re looking for here is a ratio of at least 1.5, preferably over 2, to show that Unilever’s earnings cover its interest payments with room to spare:

Operating profit / net finance costs

€7,517m / €530m = 14.2 times cover

Unilever’s interest payments and finance costs are very unlikely to threaten its dividend, as they were covered by operating profits more than 14 times in 2013.

2. Debt/equity ratio

Commonly referred to as gearing, this is simply the ratio of debt to shareholder equity, or book value. I tend to use net debt, as companies often maintain large cash balances that can be used to reduce debt if necessary.

unileverAt the end of 2013, Unilever reported net debt of €9.2bn and equity of €14.8, giving net gearing of 62%. Given Unilever’s diverse profits and high level of interest cover, this looks pretty safe, and doesn’t concern me as a shareholder.

3. Operating profit/sales

This ratio is usually known as operating margin and is useful measure of a company’s profitability.

Unilever reported a profit margin of 15.1% in 2013, up from 13.6% in 2012. Although these profits are very respectable, Unilever has been criticised for having lower profit margins than its peer Reckitt Benckiser, which delivered an operating margin of 23% last year.

The main reason for this is Unilever’s greater focus on lower-margin food products, something it is starting to address with sales of non-core brands such as Skippy and Peparami.

I’m quite comfortable with Unilever’s profit margins, especially as the firm’s dividend has also been consistently covered by free cash flow since at least 2008 — the ultimate test of a dividend’s affordability.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland owns shares in Unilever but not in Reckitt Benckiser. The Motley Fool owns shares in Unilever.

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