Dueling Fools The Procter & Gamble Gambit
The Bear Argument

By Bob Fredeen (TMF Bobdog)

It was tempting to make the bear argument on Procter & Gamble by linking to their one-year chart and the recent warning about sales and profits, and being done with it.

However, that seemed like a cop out. More importantly, a chart doesn't really make a bear argument, at least not among Fools, though the press release was sort of compelling. Instead, it would make more sense to concentrate on what happened to this company and whether it can reverse its fortune, and then decide if this is the best place to put your money.

Procter & Gamble is facing several problems right now. Investors have lost faith in management. Sales over the last several years have grown only slightly faster than inflation. Profit growth is slowing as the company faces increased expenses both in terms of the costs to manufacture its products and the costs to run the company. Finally, the company is a year into its restructuring known as "Organization 2005," which calls for some drastic changes to the company's model and poses some difficult goals.

Presumably, you've already heard all about P&G's stable of brands. It's very impressive, isn't it? However, it's not a collection of horses I'd be willing to bet on right now.

How many of Procter & Gamble brands do you use? Surprisingly, my family doesn't use many of them. In fact, we only use Tide on a regular basis. The reason for this is largely price. And, I suspect that my little collection of P&G products isn't all that different from the other billions of people out there deciding where to spend their money. When we go out shopping, are the shelves with the P&G products empty? Sure, if P&G is on sale that week. But, it seems to me that the deciding factor is not the brand name; rather, it's the price. Is Safeguard better than Dial or Lever2000? I don't really think many consumers care anymore -- they want the one that's on sale.

This kind of competition takes its toll on a company's topline sales growth and its bottom-line profits growth, exactly the areas that P&G is having troubles with. Considering that here in the U.S., we are the richest we've ever been, yet we're shopping at the places that have the steepest discounts, this trend is not likely to change.

In March, the company warned that profits for the second half of the fiscal year would be lower. The biggest problem seems to be that costs are out of control. The company cannot offset some problems quickly or easily, such as higher materials costs or governmental delays. However, problems associated with introducing more products are completely under management's control. This shows that the company is spending too much effort getting another item out the door instead of focusing on delivering profits and value to shareholders. After the company assured investors that its reorganization efforts would yield improvements, finding out that these same efforts were jacking up operating costs didn't sit well. Management assured investors that they are focusing on costs, but this hasn't allayed all fears, possibly since investors don't know what to believe.

The biggest question for this company is management credibility. This problem stems from the recent warning mentioned above that P&G would not meet sales and profits expectations because of various problems, and from withholding crucial information from lenders. When P&G was arranging a 500 million pound bond (about $750 million) in the U.K., they failed to tell investors that the company was considering buying Warner-Lambert and American Home Products. Had this transaction gone through, British bondholders would have been left holding a drastically different company than the one they had originally invested in. Investors will not look kindly on managers that persuade them to invest in a company, then change the company's focus significantly. Because of events like these in the last several months, it's difficult to know what to believe when the company starts discussing its future plans.

In reading the information on the Organization 2005 program, one very important point leaps out at me. The company claims that it wants to have sales of $70 billion in 2005, which would require sales to grow at almost 11% per year from 1999's sales of $38 billion. Yet, in the Organization 2005 information, management broke down the sales growth forecasts as 2-3% growth from established businesses, 1-2% from new brands, 1-2% from pricing, and 1-2% from acquisitions. Using these numbers, their expected growth is between 5% and 9%, meaning they are still about a percent or two shy of their stated goal. The comment made at the analyst meeting that "getting to $70 billion on the original schedule is going to be enormously challenging" would seem to be an understatement, unless "enormously challenging" means "mathematically impossible."

Overall, it looks like investors in Procter & Gamble should expect three things. First, slow sales growth: The company expects growth in the 7% range. Second, unimpressive profits growth: Even though profits grew 10% in 1999, the company doesn't seem on track to hit that level again this year. While management claims this is a temporary setback, it's a little hard to be sure at this point. Finally, with such low sales and profit growth rates, investors should expect low returns. If you are interested in investing in a company that will earn 11-13% a year, why not invest in an index fund? The returns, historically, are at about that level, and the risk is a lot lower.

The Bull Rebuttal »

 This Week's Duel

  • Introduction
  • The Bull Argument
  • The Bear Argument
  • The Bull Rebuttal
  • The Bear Rebuttal
  • Vote Results
  • Flashback: Plastic

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  • Procter & Gamble Discussion Board
  • Procter & Gamble Snapshot