Now that earnings for the consumer products group have already gotten under way with
earnings release Tuesday night (it met expectations), we decided to check in with William Steele, a senior research analyst who follows the group for
Banc of America Securities
in San Francisco.
Recent Daily Interviews
The Nasdaq's Rise: Brian Rauscher of Morgan Stanley Dean Witter
Bear Signals: Bob Doll, Merrill Lynch Investment Managers
The Financial Sector: Morgan Stanley Analyst Henry McVey
Although Steele gives his firm's highest ranking, a strong buy, to Kimberly-Clark, he says many household-product makers will continue to struggle with balance-sheet issues and lower growth expectations for the next few quarters.
TSC: With the consumer products group's earnings upon us, what are some of the themes you're looking for?
What we're looking for out of the consumer products group is boring predictability. I think it's the ability to drive consistent mid-single-digit top line growth and low double-digit bottom line growth, and if that number's rounded -- in an optimal world 5% to 10% top line, 10% to 12% bottom line -- without abusing the balance sheet. The companies that can do that on a consistent basis, I contend, will be part of any diversified portfolio.
TSC: Out of the group, which companies are you looking at to outperform now and going forward?
Kimberly-Clark. I think that Kimberly right now can be characterized as having a very solid balance sheet and cash flow. Their working capital efficiency continues to improve, they're investing behind their brands, they're launching new products and I think that from a consumer products perspective, they seem to be doing very, very well.
is a stellar performer, from a fundamental point of view, valuation aside. I think the difference between the two is that Colgate appears to be fully valued, whereas I think Kimberly-Clark is emerging as a consumer products powerhouse.
But going back to Colgate, I think the most stellar financial indicator that I saw all of last year was when I was looking at these companies' cash flows as a percent of return on invested capital. And when you look at it over a two-year period, Colgate is now generating more cash flow from operations than they did two years ago with less invested capital. It's just a very, very good performance, and I think indicative of a company that's got the financial strength and the management strength to continue to launch new products and gain market share.
TSC: What about some of the companies that we're going to see reporting later this week? We've got Avon (AVP) - Get Avon Products, Inc. Report on Thursday and Gillette (G) - Get Genpact Limited Report on Friday. Gillette has a new CEO, James M. Kilts, the former president and chief executive of Nabisco Holdings. Any thoughts on that?
With Avon, I think there's no question that
CEO Andrea Jung has brought superior brand-building skills to Avon. One of her major tasks has been to improve the cachet of the brand, and what we've seen from Andrea over the last year is new products, Internet initiatives, national television advertising and the "Becoming" line, which is going to go into retail. Now, individually, those may not mean a great deal to investors, but collectively, I think it's part of her grand plan to bring the Avon brand current not only in the mind of consumers, but
also investors. So the top-line opportunity for Avon is very clear.
I right now am a little cautious on the stock, simply from a cash flow/balance sheet perspective. Since I pay so much attention to it, I think it's unfair for me to say that I value these types of metrics quite a bit, and then on the other hand, say that Avon -- which has clearly kind of been a little weak for a couple of quarters -- is a table-pounding buy. I'm basically saying we're positive on Avon to see if they can get their balance sheet to kind of resume some strong performance.
With regard to Gillette and its new CEO, they've brought somebody in from the outside. Mr. Kilts seems to have a unique combination of strong brand-building expertise as well as a keen eye for financial and operational controls. I think that kind of skill set is certainly needed at Gillette. After several years of really not paying attention to the balance sheet, I think last year was a turnaround for the company from a balance-sheet perspective, but without a permanent CEO it's hard to see what the strategic vision is going to be from a top-line perspective. And clearly, I think Mr. Kilts' longer-term time frame is going to be a net positive. But until we can hear him tell us what his strategic plan is and perhaps what the effect near-term on earnings would be of that plan, I think we should also remain on the sidelines.
TSC: We had some pretty negative factors for this group last year with the weak euro and the high raw materials costs. Could a brighter outlook in these two areas help the group in 2001?
I think that certainly raw materials could be somewhat of a positive. But at the end of the day I still think this group is in some sort of a transition away from long-term growth rates, EPS growth rates, of 14%-15% down to the low double-digit realm.
I think there you see a majority of companies, you know,
Procter & Gamble
, Kimberly-Clark or
all targeting double-digit EPS growth, and it always just seemed kind of absurd to me that a company would pick a number out of the air -- let's say 14% -- and say that's our target. I think that's an appropriate thing to do, but when companies say that, almost invariably that becomes kind of the bar that analysts would use in order to come up with their earnings estimates. I think that low-double-digit EPS growth gives the companies flexibility to maximize their opportunities.
But with regard to this year, I think it's still a transitional year. The last couple of years have not been particularly kind to this group. I think the majority of the pain is behind us, but I still, I think the good news this year is that a lot of companies are focusing on their brands and they're focusing on their balance sheet. I think the thing that concerns me is that everybody is focusing on their core brands. And the example that I use of detergents, that if Procter focuses on Tide and
on Wisk and Dial on Purex, that all sounds good, but at the end of the day, you and I are not going to buy any more detergent this year then last year. Therefore, there is the specter of a company or two not, perhaps not getting any bang for its initial "focused buck."
TSC: What does that mean to individual investors or mutual fund investors who might want to look at this group as sort of a defensive play?
I'm still unwilling to make a sector call on this group. From the positive standpoint, I still think it's a selective stock picking group, again, focusing on companies that have a strong balance sheet and a good valuation. I think that this, from a strategist's point of view, appears more of a capital preservation market, and so I'm less willing to buy companies who say they're going to improve things. I'm more willing to buy companies that can show me tangible evidence of a turnaround.
Banc of America Securities has performed underwriting for Dial in the past few years. Steele has a strong buy rating on Kimberly-Clark, a buy rating on
, Avon and Dial, and a market performer rating on Procter & Gamble, Colgate and Gillette.