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Procter & Gamble: Will the gamble pay off? - Views on News from Equitymaster
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  • Jun 12, 2012

    Procter & Gamble: Will the gamble pay off?

    US based P&G; worth $ 80 b in revenues is the world's largest consumer packaged goods (FMCG) company. But its association with India has been relatively recent when in 1985 it acquired Richardson Hindustan Limited along with its popular Vicks range of products. Since then, P&G has continued to grow in India and currently has three subsidiaries. Unilever on the other hand has been in India for the past 75 years and its Indian arm, Hindustan Unilever (HUL) is the largest FMCG company in the country having presence in almost every consumer goods category.

    In India, P&G is striving to ward off competition from Hindustan Lever which is four times as large as P&G in India. P&G Home Products Ltd (PGHP) is the largest but unlisted subsidiary of P &G India that operates in highly competitive categories such as laundry (Ariel, Tide), hair care (Pantene Head & Shoulders) and skin care (Oil of Olay). PGHP is also the vehicle for new products launches and innovations by the parent company. Amongst listed subsidiaries, Procter & Gamble Hygiene and Health Care Ltd. (PGHH) is present in niche categories such as female hygiene (Whisper) and healthcare (Vicks) products whereas Gillette manufactures male grooming and shaving products.

    P&G India has succeeded in giving arch rival HUL a tough fight in detergents and shampoos through aggressive advertisement & promotional (A&P) spends. Therefore PGHH's selling and distribution costs have spiraled to around 37% of sales which is highest in the industry. HUL expends only 15% of sales on A&P. Even Gillette that offers huge trade discounts has witnessed its A & P to sales ratio climb to 27%.

    The heavy promotional-based strategy has resulted in robust topline growth but at the expense of constricted profitability. In the last three years 2009-11, each of the subsidiaries recorded growth of over 15%. However, Gillette saw its profitability halve to around 8% during the same period. PGHP with the highest A&P spends slid in the red. In FY11, the company posted the biggest ever loss of Rs 3.3 bn that has wiped off profits earned in the past six years. PGHH, with a benign A&P to sales ratio of 12%, has contracted margins by 500 basis points but more so on account of high commodity inflation.

    Obviously, P&G India is trying to make up for its late entry. It has doubled its distribution reach to 1.3 m retail outlets in the last couple of years. The Indian arm has been fine-tuning its brands by driving product innovations and investing in brand promotions. A look at the brand performance over the five-year period 2006-11 shows that PGHH's brands have been contributing less to earnings growth whereas Gillette brands have been guzzling money. It will take while before the brands start fuelling growth in profits.

    Brands yet to contribute significantly
      PAT (Rs m) Networth (Rs m) Brand value (Rs m)
    Company name FY06 FY11 CAGR FY06 FY11 CAGR FY06 FY11 CAGR
    Procter & Gamble Hygiene & Healthcare 1395 1509 2% 2726 6006 17% 6575 4052 -9%
    Gillette 687 862 5% 3482 6003 12% 1099 -260  

    Note: Brand value has been estimated as the difference between the visible networth sitting on the books of the company and the total networth required by a company to earn 15% ROE at the same net profit level. In other words, whatever profit growth the companies have been achieving over and above what is required to earn more than 15% ROE is being attributed to its brand value

    Despite the ongoing challenges, demand in emerging markets remains robust as compared to the developed economies that are struggling to come out of the recession. Realizing the potential, P&G has announced a USD 10 bn cost-cutting plan under which it plans to slash 10% of its non-manufacturing jobs and increase hiring in India and China. To strengthen its presence in India, and increase sales 20 times from its current $ 1b level, P&G India has formulated a 'Project 2-3-4'. This is aimed at doubling the number of Indians who use its products, trebling per capita spending by Indians on its products and quadrupling sales of its Indian operations by 2015. The parent company also plans to launch toothpaste brands Crest and Oral B in emerging markets, including India by 2015.

    To achieve this ambitious target, PGHP approved capital expenditure of over Rs 9 bn, the single largest investment in a single financial year. However, with profitability of subsidiaries under pressure and the largest one having slipped into red, it becomes more critical for parent company to step up local manufacturing versus depending on imports. So, recently the parent company announced plans to set up its largest manufacturing plant in Hyderabad at a cost of Rs 3.5 bn. Reportedly, the plant will be commissioned in two years and will manufacture laundry, personal and baby care products.

    As P&G gears itself to scale up presence in India, only time can tell whether the strategy will pay off.

      Madhu Gupta (Research Analyst), Managing Editor, ResearchPro has a post graduate degree in both physics and finance. Having worked with India's leading economic research agency, she has a natural flair for numbers and analytics. She brings with her a near-decade long rich experience in the field of finance. A firm believer of the principles of value investing, she looks for robust businesses with durable competitive advantages. Madhu contributes towards our small cap service Hidden Treasure.



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