4 Reasons Procter & Gamble Co Stock Could Fall
Image Source: Getty.
Procter & Gamble (NYSE: PG) is usually considered a conservative long-term investment. However, the stock's 20% rally over the past 12 months was mainly fueled by investors seeking higher yields in a low-interest rate market instead of any real growth from P&G. That's because P&G pays a forward yield of 3.1% and has hiked its dividend annually for nearly six decades.
Image source: P&G. Note: Duracell transferred toBerkshire Hathaway in Feb. 2016.
But that rally also boosted P&G's trailing P/E to 24, which matches the industry average of 24 for personal products companies. Its forward P/E of 21, however, seems lofty for a company which is expected to post just 6% earnings growth this year. Therefore, I believe that P&G stock could decline soon for four simple reasons.
1. Higher interest rates and bonds
The Fed has been notoriously slow at raising interest rates, but those rates must eventually rise. When that happens, bonds will look more attractive than high-yielding income stocks because they offer guaranteed returns. As a result, dividend stocks with higher P/E ratios like P&G will likely decline.
2. Higher interest rates and the dollar
If interest rates rise, the dollar will strengthen and gobble up more of P&G's overseas revenue. Last year, P&G's total revenue declined 8%. Unfavorable foreign exchange rates reduced sales from all five of its core businesses (beauty, grooming, healthcare, fabric/home care, baby/feminine/family care) by between 6% to 9%.
On an organic basis, which excludes currency impacts, acquisitions, divestments, and other charges, revenue inched up 1%. For fiscal 2017, P&G expects its organic sales to improve 2%. Currency headwinds and the divestitures of minor brands are expected to reduce its total sales growth to 1% -- but if the dollar strengthens as other major currencies weaken, P&G could post another year of negative sales growth.
3. Tougher competition
P&G dominates supermarket aisles with established brands like Tide, Bounty, Charmin, Pampers, and Gillette, but the company faces stiff competition from rival consumer goods giants like Unilever (NYSE: UL) and private label brands in superstores like Wal-Mart (NYSE: WMT).
Unilever often posts better sales growth than P&G. The British-Dutch company posted 10% sales growth lastyear, thanks to a weak euro boosting its revenue by 5.9%. Unilever also recently agreed to buy Dollar Shave Club, the market leader in the subscription-based "shave club" market, for $1 billion to counter P&G's Gillette Shave Club. That move could hurt P&G's grooming segment, which posted an 8% sales decline last year.
Meanwhile, Wal-Mart's placement of rival and private label brands next to P&G's brands has forced P&G to spend more. According to the Wall Street Journal, P&G recently boosted Tide's marketing budget by30% to counter Wal-Mart's placement of Henkel's Persil next to its flagship detergent.
4. A historical underperformer
P&G has a long history of underperforming the S&P 500. Over the past five years, P&G rose about 40% as the S&P 500 rallied 95%. Past performance isn't a reliable indicator of future returns, but the stock will likely underperform the market if rising interest rates weaken the appeal of its dividend and a stronger dollar swallows up its overseas earnings.
Analysts don't have high hopes for P&G. They expect its earnings to improve just 7% annually over the next five years, even with heavy buybacks factored in. This gives it an unimpressive 5-year PEG ratio of 3.4. Meanwhile, it's easy to find other personal products stocks which are cheaper relative to their long-term earnings growth potential. For example, Kimberly-Clark and Church & Dwight respectively have PEG ratios of 3.0 and 2.9.
The key takeaway
P&G is still a solid company, but I wouldn't buy any shares until rising interest rates knock the stock down to more reasonable levels. The stock's multiples are too high, its growth rates are too slow, and it is highly exposed to a rising dollar. Exposing yourself to these risks for a merely average yield of 3.1% simply isn't worth it.
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Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Kimberly-Clark, Procter and Gamble, and Unilever. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.