The Ultimate Rule Maker: Procter & Gamble

If there's one beast on Wall Street that is to be feared, it is the Rule Maker. This cunning creature is big, strong, and apt to cause many a competitor to shake in its corporate boots.

What exactly is a Rule Maker, you ask? Well, you can check out this article for reference. Here's a quick summary of some of the finer points of the genus: A Rule Maker is a company that has a history of financial success, access to a powerful portfolio of brands, multiple billions in annual sales, healthy margins, and a resilient multiyear outlook.

Without a doubt, Procter & Gamble (NYSE:PG) is a favorite Rule Maker of mine. I've written about the company before, I'm writing about it now, and I'll most assuredly write about it in the future. P&G knows what it's doing in the consumer marketplace; it has built up a legacy stable of products that people are compelled to reach for, even when there are lower-priced private-label alternatives right in view.

Let's begin at the top line. Rule Makers should have sales above $4 billion a year, correct? P&G has that covered and then some -- in the latest quarter alone, sales approached $20 billion. According to the latest 10-K annual filing, total net sales for fiscal years 2004, 2005, and 2006 were roughly $51 billion, $57 billion, and $68 billion, respectively. That's better than 10% growth per year for this period, a pretty cool feat for such high figures. No doubt, not all of this growth was organic; indeed, the acquisition of Gillette certainly helped. Historical revenue data does show that P&G hasn't always grown sales by double digits, but I think the company's top line can still be considered that of a Rule Maker.

P&G knows how to convert that top line into bottom-line success. The company is pretty skilled at keeping those margins where they should be, as this chart will show (numbers, from the latest 10-K, are expressed as percentage points).

As can be seen, these stable and/or increasing margins indicate a well-run organization. It's especially encouraging that P&G has been able to accomplish this kind of performance during a period of commodity inflation.

A Rule Maker has to have solid free cash flow. Not only does P&G have that, but its free cash is usually very productive. What does that mean, you ask? It means that free cash flow usually represents a good chunk of net earnings. In 2005, free cash flow came in at $6.5 billion; in 2006, free cash was around $8.7 billion. The ratio of free cash to earnings in 2005 was 94%, while in 2006 it was 100%. P&G certainly won't hit such high productivity rates every year, but the company likes to strive for a 90% or better score where this metric is concerned; I think it's entirely plausible that the company will succeed the majority of the time.

So, P&G has strong top-line sales growth for a company its size, it does well on the margin front, and its free cash flow is not only productive, it's enough to cover the dividend obligation. What drives all of these positive results? As mentioned, it's P&G's product portfolio that brings in the cash. Every single day, consumers around the globe reach for P&G items. Here are some examples: Scope mouthwash, Duracell batteries, Swiffer cloths, Pampers diapers, and my personal favorite, Pringles potato crisps. You've heard all these names before, and you most likely have purchased some of them in the past and will again in the future. P&G has created a sustainable moat of advantage for itself by investing in the development of products that can be marketed to a mass, worldwide audience; its corporate centers have amassed a lot of knowledge and experience when it comes to determining what the everyday consumer wants. Even in the face of fierce competition from companies such as Colgate-Palmolive (NYSE:CL), Clorox (NYSE:CLX), Johnson & Johnson (NYSE:JNJ), and Kimberly-Clark (NYSE:KMB), P&G thrives.

There you have it. P&G is definitely a company that helps set the rules for the consumer-products game. It's got great fundamentals and excellent long-term prospects, it's been around for decades, it made the right move with the Gillette acquisition even considering the dilutive effect it had on earnings, and it continues to update its portfolio with fresh twists on iconic brands -- think of all the new iterations to come for things like Crest and Gillette's shaving systems, just to name two examples. P&G is perhaps the best Rule Maker of them all.

Now go back and read about the other contenders for the best Rule Maker. For more stock ideas, visit Motley Fool Inside Value, where we identify industry leaders trading for bargain prices. You can try Inside Value free for 30 days.

Fool contributor Steven Mallas owns no shares in any of the companies mentioned. As of this writing, he was ranked 12,939 out of 24,090 investors in the Motley Fool CAPS system. Don't know what CAPS is? Check it out. Colgate-Palmolive is a Motley Fool Inside Value recommendation, and Johnson & Johnson is a Motley Fool Income Investor pick. The Fool has a disclosure policy.