In the last year, shares in Unilever (LSE: ULVR) (NYSE: UL.US) have comprehensively outperformed those of fellow global consumer stock, Diageo (LSE: DGE) (NYSE: DEO.US). In fact, Unilever has posted share price gains of 14%, while shares in Diageo are up by just 1%. Looking ahead, though, which of the two companies is likely to be the better performer in the long run?
Although they operate in different sectors, Unilever and Diageo have one thing in common: a very high degree of customer loyalty. In fact, they own some of the biggest and most lucrative consumer brands in the world, with customers happy to pay a premium for a product they consider to be better than other brands or generic products.
Furthermore, Unilever and Diageo have a very large number of brands, which means that they are able to more easily cope with changes in consumer tastes. So if, for example, the performance of one brand disappoints, both companies have others that can pick up the slack. This provides them with a large degree of certainty with regard to their top and bottom line performance, which means that they should deliver upbeat financials even during challenging periods for some of their brands.
Even though Unilever’s share price performance has been vastly superior to that of Diageo in the last twelve months, its shares still seem to offer better value for money. For example, they trade on a free cash flow yield of 3.1%, while Diageo’s shares have a free cash flow yield of 2.4%. As such, there appears to be greater scope for an upward rerating of Unilever’s shares than for Diageo.
Furthermore, Unilever’s free cash flow appears to be at least as consistent as that of Diageo. Looking back at the last five years, both companies have been remarkably consistent with regard to their net operating cash flow and capital expenditure levels and, looking ahead, this bodes well for investors in both stocks.
As well as being better value than Diageo, Unilever also offers a considerably higher dividend yield. For example, while Diageo’s 2.7% yield is somewhat disappointing, Unilever’s yield of 3.3% is much more impressive and makes it a realistic income stock. And, even though Diageo is forecast to increase dividends per share by 7% next year, Unilever is not far behind at 6.5% and, together with a higher yield, this makes it a much more appealing company for income-seeking investors.
So, while Diageo does have its merits, Unilever has a more appealing valuation and more enticing income prospects. As such, and while both stocks are worth buying, I think Unilever is the one that you should seek to buy first.
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Peter Stephens owns shares of Unilever. The Motley Fool UK has recommended Diageo (ADR), Unilever, and Unilever. The Motley Fool UK owns shares of Unilever. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.