RealMoney Silver - PG Preview: How Are Market Conditions?

PG Preview: How Are Market Conditions?
By Ron Thomas
RealMoney Contributor
4/29/2008 10:27 AM EDT

Procter & Gamble (PG) is expected to report EPS of 91 cents, up 9.4% from 74 cents last year, and sales are estimated to be up 9.3%, to $20.44 billion. Very little has changed since the anticipation of the last quarter. The market still does not believe that Procter & Gamble can continue to keep unit sales in its 3% to 5% long-term estimated range, or at least keep it there without a lot of gross-margin degradation.

Plugging numbers into my three-stage EPS growth model now gives the same sort of result as for a consumer discretionary stock - which is to say that the Street low estimates of $3.46 and $3.85 for fiscal 2008 and 2009 imply that Procter & Gamble is a 3% grower in perpetuity. A more plausible reading of the current situation is that the Street expects $3.46 both this year and next, with a 5.5% long-term growth rate. That gives an investor a lot of probability of an upside surprise to expectations but no short-term catalyst as the brunt of the U.S. consumer retrenchment has still not worked its way into household products numbers.

The process to get to a flat year is for the absolute sales price differentials to cause consumers to trade down to cheaper brands or private label because they have significantly less dollars to spend. Private label is increasing its share in a higher percentage of categories now, around two-thirds. I believe that a flat year could happen, but that it is a bad bet as long as there is not a major economic slowdown in developing countries.

The substantial "noise" in four-week market share data is where one should focus to see how bad things are getting. Management will probably point to U.S. tracked channels in Information Resources, where results rose 1.8% on the March quarter vs. a 0.2% gain in the fourth quarter. That is an excellent performance, and the company will need it because Western Europe is weakening, and tracked channels there are down 3.3% in this quarter. Meanwhile, developing countries are likely to continue to be up in high-single-digit percentages in the quarter. The net result will probably be 5% to 5.5% sales growth, still a strong number.

For now, I read Procter & Gamble's good sales in the face of economic pressure as evidence that its products are now more superior to the competition than they have previously been, with higher-income and/or more satisfied customers unlikely to leave Procter & Gamble's products as much as those of other manufacturers. Hence, I do not see a flat year in 2009 as possible now. A doable-with-3%-volume-growth 7.5% EPS compound annual growth rate on Street low estimates implies 20% appreciation to $79.

So, I want to hear what management has to say about market conditions more than I care about the quarter. I am almost sure that management will be asked about any trading down to its mid-tier brands. The cost of goods sold outlook will also be watched closely for its implications both on gross margins and for sales in how much needs to be passed on to the consumer. Finally, the accelerated restructuring charges may, with a lot of 2009 effect, make a flat EPS year less likely than it is now.

Similar to PepsiCo's (PEP) situation, if there is an unforeseen drop, or possibly even moderation of the rate of increase, in commodities costs, I would expect the stock to rally.