By Brian Graney (TMF Panic)
March 7, 2000

Global packaged consumer products giant Procter & Gamble (NYSE: PG) was thrown for a loop this morning after reducing its earnings growth expectations for the second half of its fiscal year ending in June. The top-line growth train is rolling along, with the Cincinnati-based firm expecting sales to increase by 7% to 8% in the second half. However, a hodgepodge of previously unforeseen operating costs will put the kibosh on margins, resulting in a 10% to 11% EPS slide in Q3. Analysts had been modeling in earnings growth of 7% to 9%. The growth will return in Q4 when EPS will rise 16% to 18%, but that will still miss analysts' previous hopes for a 22% growth rate.

Needless to say, the scorned analysts let loose with their collective wrath this morning, issuing downgrades and earnings revisions galore. This is a pretty interesting spectacle for long-term investors to observe from afar, considering P&G's analysts just parrot what the company gives them in terms of guidance anyway. There is very little work involved. All the analysts have to do is change a few numbers in their spreadsheets. Big deal. But many are acting as though their entire analytical world is falling apart around them because of today's news.

Still, what makes sense for the long-term investor and what makes sense for the short-term speculator are two very different things. For an investor who may have slumbered through the past few months in a Y2K partying-induced coma and is just waking up today in time for Mardi Gras, here's how the earnings per share expectations for P&G have changed:

      First Call   New Guidance   % Shortfall
Q3      $0.78     $0.64 - $0.65     17% - 18%
Q4      $0.67     $0.64 - $0.65       3% - 4%
FY00    $3.21             $3.05            5%
FY01    $3.68     $3.45 - $3.51       5% - 6%

The adjustments are certainly notable, especially for Q3. In fact, the original Q3 estimate was $0.81, before the company guided analysts to reduce their numbers in late January due to higher levels of marketing and advertising spending in the quarter. However, the earnings revisions have had a disproportionate effect on P&G's share price, which has fallen from a 52-week high of $118 3/8 on January 18 to a 52-week low of $57 1/4 at one point this morning.

So, Mr. Market is more or less saying that P&G is worth 50% less than it was two months ago, even though full-year earnings are only going to be about 5% less than previously expected over the next two years. How can this be? A few possible explanations initially come to mind. Number one, the company was irrationally overvalued in January. Number two, the company is irrationally undervalued today. Or number three, the market is pricing in more bad news on the P&G earnings front down the road.

The absolute level of future earnings growth alone doesn't determine a company's value, although it does play a pretty big part. Investors buying P&G today are paying 20 times what this bastion of brand names now expects to realize in earnings this year. However, that earnings multiple doesn't really tell an investor anything about whether this year is the "transition year" that P&G says it is and whether the company can live up to its goal of 6% to 8% annual sales growth and 13% to 15% annual EPS growth over the next four years. That's for the investor to decide through their own analysis.

That may seem like a daunting task, especially in light of the fact that many of the "professional analysts" covering Procter & Gamble have apparently given up on the challenge and are simply basing their opinions on what the company decides to tell them. But such defeatism and reliance on short-term events in the mainstream is often what opens up opportunities for contrarian-minded, long-term investors willing to swim against the tide.

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