P&G May Need To Split, Divest To Stay Competitive – Analysts

Analysts question whether The Procter & Gamble Company can keep up with its peers without shedding pieces of its business or taking other significant action to improve efficiencies.

Advantageous moves for P&G could include splitting into two businesses, divesting its premium fragrances or pulling out of core beauty categories, experts suggest.

P&G’s net sales rose 2% to $20.6 billion for the fiscal 2013 third quarter, driven by the firm’s Health Care segment, which advanced 8% to $3.27 billion, according to an April 24 release.

The firm credits the gain in part to its oral-care performance, feminine-care market growth and a strong cold and flu season, which boosted sales of Vicks cough and cold products and its personal health business overall.

Other business units did not fare as well, with Fabric Care and Home Care coming up flat and Grooming and Beauty each declining 2% in net sales for the January-March period, continuing a trend witnessed over recent quarters in which P&G trailed rivals, including Unilever PLC and L'Oreal SA.

In an April 22 report, financial services firm UBS notes that “while P&G is stepping up its spending, cutting costs and accelerating new product launches – so are its competitors.”

UBS is skeptical that P&G will be able to “close the ‘growth gap’ with its peers” and projects further market-share erosion. It points to data indicating share losses across all of P&G’s major business segments in 2012.

Among challenges facing the Cincinnati-based consumer-goods giant are poor execution in terms of pricing and go-to-market strategies and an “inability to properly fund all [its] businesses,” UBS suggests. P&G also has fallen behind due to its “heavily centralized decision-making model,” which compromises its reaction time in a changing macro/competitive environment, according to UBS.

Moreover, P&G is starting to feel the impact of cost-cutting measures, including the elimination of 5,700 non-manufacturing positions under a plan targeting $10 billion in overall savings, announced in February 2012 (Also see "P&G Beauty’s Sluggish 2012: The Cost Of Cutting Back?" - HBW Insight, 25 Mar, 2013.).

UBS says that based on feedback it has received, the cuts have resulted in delays in corporate initiatives, and while upper-level employees may be holding up, “we believe morale may be much less positive in the ‘guts’ of the organization,” it says.

Investment research firm Morningstar also questions P&G’s growth prospects in a highly competitive landscape.

P&G “may have overextended itself in its endeavors to build out its product portfolio and geographic footprint,” and the company has been slow to revise its strategy and adjust to global headwinds, Morningstar suggests in a March report.

Management is now under the gun to deliver, and dissatisfied shareholders – including activist investor Bill Ackman, whose firm Pershing Square Capital Management purchased a roughly 1% share of P&G in July 2012 – could push for changes (Also see "Activist Investor May Urge P&G To Lose Non-Core Brands, McDonald" - HBW Insight, 23 Jul, 2012.).

One move Ackman could pursue is splitting P&G into its separate beauty/health-care and home-care businesses, Morningstar says. Each would account for more than $40 billion in annual sales and “would possess significant scale benefits in its own right,” the firm notes.

While Morningstar believes that such a breakup could “unlock” additional value for shareholders, the likelihood that P&G’s board would embrace the strategy is “small at this point,” it says.

P&G Should Follow Unilever, Unload Fragrance

Euromonitor International’s Oru Mohiuddin, senior analyst for the market research firm’s home and personal-care division, asserted in an April 22 blog posting that “lack of synergy” in P&G’s portfolio is partly to blame for the drag on its performance, and the company should consider divesting its premium fragrance business.

According to Mohiuddin, premium fragrances are “misfits” in the firm’s product offering, requiring their own distribution platform, and represent just 6% of P&G’s total beauty and personal-care revenue.

P&G markets luxury fragrances through partnerships with designer brands Hugo Boss and Escada.

The firm lost rights to Dunhill-branded fragrances in late 2012 when men’s fashion house Alfred Dunhill Limited inked a new deal with Inter Parfums (Also see "In Brief" - HBW Insight, 7 Jan, 2013.).

Mohiuddin notes that Unilever – with an operational structure similar to P&G’s – sold its prestige fragrance business to [Coty Inc.] in 2005. The move enabled Unilever to capitalize on distribution synergies that stem from having a common distribution platform across product categories, the analyst says.

At the same time, Unilever has focused on covering the pricing spectrum in supermarket aisles and thereby achieving “more in-depth category coverage,” Mohiuddin says, highlighting the firm’s hair-care offering for example, which includes economy brands VO5 (outside the U.S.) and Suave, mass/masstige brands Sunsilk, Dove and TRESemme and premium offering Nexxus.

UBS also has been impressed by Unilever, which “has gone from significant donor of share to one of the fastest-growing [home and personal care] companies across the globe.”

The Swiss firm credits the leadership of Unilever CEO Paul Polman, who took the helm in January 2009. For its full fiscal 2012, Unilever topped the €50 billion mark with 10.5% growth in turnover (Also see "Unilever Hits €50 Bil. Mark, Growing 10.5% In Fiscal 2012" - HBW Insight, 28 Jan, 2013.).

Other HPC firms are benefiting from new management, UBS says, citing Beiersdorf, which has seen accelerated growth under the “Blue Agenda” of new CEO Stefan Heidenreich, who joined the company in January 2012 and has since sharpened the firm’s skin-care focus (Also see "New Beiersdorf CEO Heidenreich Affirms: “We’re On The Right Track”" - HBW Insight, 7 May, 2012.).

Beiersdorf reported sales growth of 7.2% to roughly $7.85 billion (€6.04 million) for its full fiscal 2012.

Reckitt Benckiser has experienced promising results since global marketing head Rakesh Kapoor moved to the CEO spot in August 2011, focusing on “power brands” and “power markets,” UBS notes.

Meanwhile at P&G, Ackman and other investors have expressed frustration with P&G’s management and particularly CEO Bob McDonald, Morningstar notes.

Referring to the firm’s 2012 Analyst Meeting in November of last year, Morningstar states: “We sensed some tension between CEO McDonald and CFO Jon Moeller (who essentially ran the show and even interrupted McDonald during the short question-and-answer session). McDonald came across as much more at ease talking one-on-one with analysts during the product exhibits when Moeller wasn’t standing over his shoulder.”

Morningstar concludes: “We will continue to assess whether discord among the two top officials ... exists, which could foretell if personnel changes may be at hand.”

Ramping Up Innovation Is Key

According to UBS, P&G’s ability to keep pace with the competition depends on “performance superiority of its new product initiatives + best-in-class execution + sharper price points.”

The firm points out that P&G “is not operating in a vacuum” and highlights a number of recent innovations from Beiersdorf/NIVEA, Johnson & Johnson/Neutrogena, Unilever/Vaseline and various L’Oreal brands.

Euromonitor’s Mohiuddin also recognizes the increasing competitive pressure on P&G, particularly from L’Oreal and other companies heavily focused on beauty.

“Mass facial care and color cosmetics are increasingly being driven by product sophistication, requiring greater investment in R&D and more frequent product launches,” UBS says.

In a March blog posting, Kline & Company’s Nancy Mills, industry manager for the market researcher’s consumer-products practice, identified areas where P&G’s innovation program has come up short and the firm has lost market share to rivals, which she attributes at least partly to inadequate funding and resources following headcount reductions and other cuts.

Mohiuddin agrees that P&G is falling behind. “Although [P&G] has launched a number of new products, it has been unable to maintain the same pace of innovation, made more difficult by having to balance R&D resources across its highly diverse portfolio.”

The analyst provides an example, noting that in 2012, P&G’s Olay unit saw its facial-care share in the U.S. and China slip 0.9 and 0.6 percentage points, respectively, while L’Oreal Paris’ piece of those markets grew 0.3 percentage points in both.

P&G could devote more resources to its Olay brand and other skin-care properties if it were to withdraw from core beauty categories altogether, Mohiuddin notes.

She points out that color cosmetics make up 6% of the firm’s total beauty and personal-care sales, versus 10% for skin care, and while Olay is a globally recognized skin-care brand, P&G’s primary makeup brand Cover Girl “is mostly based in the U.S.”

Morningstar acknowledges that as the world’s leading consumer-product manufacturer with 25 brands generating at least $1 billion in annual revenue and a dominant position in numerous product categories, P&G continues to have clout with retailers and the favor of many consumers.

However, “we believe P&G’s wide economic moat is eroding,” the investment research firm says. “Although P&G operates as the leading player in the household and personal-care category, it is not immune to aggressive competition, and its inability to get its hands around these issues concerns us. ... We contend that its pricing and brand power is exhibiting signs of deterioration.”

P&G is projecting net sales growth of 1% to 2% for full fiscal 2013.