Should Investors Leave P&G Shares on the Shelf?
Inflation and supply chain shortages put pressure on the wide-moat company.
Despite unrelenting cost pressures and shortages across its supply chain (particularly as it pertains to labor), wide-moat Procter & Gamble PG delivered impressive fiscal 2022 second-quarter performance. Organic sales popped 6% versus a year ago (on top of an 8% jump last year), driven by higher prices and stepped-up volumes (each of which contributed 3%). And although the firm realized a compression in profitability (with gross and operating margins down 400 and 250 basis points, respectively, to 49.1% and 24.7%), we don't believe this erosion reflects cracks in its armor. Rather, pronounced inflationary headwinds (a 400-basis-point drag to gross margin in the period) combined with higher freight costs (a 60-basis-point hit) were the primary culprits, factors that are plaguing firms across a swath of industries given the breadth of the cost increases. While we don't expect these higher costs to abate near term--in line with P&G's expectations for commodities and freight to serve as a $2.8 billion headwind in fiscal 2022, up from its $2.3 billion outlook three months earlier--we think the firm remains squarely focused on unearthing efficiencies in its underlying business (an 80-basis-point benefit in the quarter at the gross margin line) and raising prices (a 130-basis-point boost in the quarter) to offset this barrage of challenges, which we view as prudent. Management edged up its fiscal 2022 sales growth guidance to 3%-4% (from 2%-4%) but held the line on its aims for 6%-9% EPS growth, which aligns with our prior outlook (3.9% and 7.0%, respectively). Although we are unlikely to alter our near- or long-term forecast, our $118 fair value estimate should see a low-single-digit increase, spurred by time value and our revised expectation for the statutory U.S. corporate tax rate to remain at 21%. However, shares traded higher around 4% on the news; at more than a 33% premium to our intrinsic valuation, we think investors should remain on the sidelines.
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