Bill Ackman Is Interested in This Consumer Products Company

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Procter & Gamble (NYSE: PG) has been under attack lately. Despite the over $200 billion market cap, the consumer products company has come under activist pressure by hedge fund manager Bill Ackman. With the stock up 20% year to date, should investors join Ackman in investing in Procter & Gamble?

Fundamentals

Procter & Gamble is one of the world's leading consumer product companies with some of the world's most famous brands, including Crest toothpaste, Tide laundry detergent, and Duracell batteries. It has been adept at marketing and innovation with 25 'billion dollar' brands.

Procter & Gamble shares currently trade around 18 times this year's earnings and 18.7 next year's earnings. It has a 3% dividend yield and a payout ratio of 49%. Analysts are currently expecting five year EPS growth of 7.6%. 

While selling consumer products such as laundry detergent and shampoo may not be as attractive as 3D printing or robots, it has been extremely lucrative over time. Procter & Gamble is one of the Dividend Aristocrats, S&P 500 companies that have increased dividends every year for the last 25 consecutive years. It is a testament to Procter & Gamble's pricing power and moat that the company has raised its dividend even when the economy has gone through recessions in 1992, 2002, and 2008-2009. The company has, in fact, raised its dividend for 57 consecutive years.

The activist investor

Lately, Procter & Gamble has been the target of activist investor Bill Ackman. Ackman is known for agitating for change and getting it. In 2005, after purchasing a 1.6% stake in McDonald's, Ackman demanded that the company sell restaurants and accelerate share buybacks to increase shareholder returns. McDonald's stock doubled in two years.

Ackman is attempting to do the same thing with Procter & Gamble. The activist hedge fund manager bought a $2 billion stake in Procter & Gamble and has publicly stated that he did not think CEO Bob McDonald was the right man for the job. This May, Procter & Gamble dumped its CEO Bob McDonald for the former CEO A.G. Lafley. Ackman, presumably, has Lafley's ear and will have a say in how P&G goes forward.

Ackman believes that through a combination of cost cutting and better integration, Procter & Gamble can raise its organic revenue growth rate from the present 3% to 5%, and EBIT margin from the present 18.9% to 24%, and subsequently increase Procter & Gamble's earnings power from the present $4.00 a share to $6.00 a share in fiscal year 2016. Ackman specifically hopes that Lafley can reduce the bloated overhead cost structure caused by never fully integrating the Gillette acquisition in 2005, better price products in certain categories, and market more efficiently.

He further believes that Procter & Gamble should focus more on faster growing emerging markets than the domestic market. If these actions are achieved, Ackman believes that with an 20x multiple,  Procter & Gamble shares could be at $125 by 2016. 

Versus competitors

Johnson & Johnson (NYSE: JNJ) is a diversified healthcare company that makes everything from consumer products to pharmaceutical drugs to heart stents. Some of Johnson & Johnson's brands include Listerine and Band-Aid, which are used nearly in every house in America. The company has recovered from its 2011 recall of Tylenol pain relievers due to lapses in manufacturing quality. 

Johnson & Johnson's OTC division sales rose 14% in the U.S. as some products returned back to OTC shelves. Like Procter & Gamble, Johnson & Johnson is a Dividend Aristocrat. It has paid a dividend every year since 1944 and has increased its dividend for 51 straight years. That track record is a testament to Johnson & Johnson's wide moat and pricing power. Last April, the conglomerate increased the dividend 8% to the present 3.07% yield. 

Clorox (NYSE: CLX) is a consumer products company that is known for its namesake bleach product, Clorox. The company also makes, among other things, GLAD trash bags and SOS detergent. Bleach, detergent, and trash bags are things that everyone uses and whose demand can expected to remain stable. This demand inelasticity has produced very predictable and stable earnings growth of around 5% a year over the past five years. 

Clorox's weakness is that it has very limited exposure to emerging markets with only 21% of 2012 revenue coming from international markets, and almost no meaningful revenue from BRIC nations such as China or India. Management, however, is very friendly to shareholders. It has increased the dividend by a rate of 13% over the past four years and reduced the float by 7.4% through stock buybacks. Like Procter & Gamble, Clorox is a member of the Dividend Aristocrats.

  P/E (ttm) Forward P/E 5-year PEG (expected) Price to Sales (ttm) Profit Margin
Procter & Gamble  18.01  18.61  2.54  2.63  15.61%
Johnson & Johnson  20.61  15.95  2.70  3.71  18.38%
Clorox   20.21  18.61  2.80  2.00  10.02%
Advantage:  PG  JNJ  PG  CLX  JNJ

Comparing the numbers, Procter & Gamble is the better value for growth, but J&J, with its higher healthcare drug portfolio, has higher profit margins.

Conclusion

Procter & Gamble, Johnson & Johnson, and Clorox are great companies. They have wide moats, pricing power, and sustainable durable advantages. As a testament to their strength, they are Dividend Aristocrats, companies that have steadily increased their dividends over the past 25 years. All three companies should outperform the market over time. However, if activist manager Bill Ackman's predictions come true, Procter & Gamble will be the best buy of the three. 

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Jason Bond has no position in any stocks mentioned. The Motley Fool recommends Johnson & Johnson and Procter & Gamble. The Motley Fool owns shares of Johnson & Johnson. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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