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Six stocks to beat uncertainty

Your introduction to consumer staples


Important - The value of investments can fall as well as rise, so you could get back less than you invest, especially over the short term. The information shown is not personal advice, if you are unsure of the suitability of an investment for your circumstances please seek advice.

Sophie Lund-Yates
Equity Analyst

We’re in uncertain times. But that brings opportunities.

We think fast-moving-consumer-goods companies (FMCG) deserve a closer look.

What’s an FMCG company?

FMCG companies sell simple, everyday items. Think soap or soft drinks. Stuff everyone buys, even in market downturns. A wide customer base that buys regularly means FMCG companies have some pretty steady revenues compared to other companies.

In times of uncertainty, that’s important. We don’t know what Brexit will mean for the economy, but people won’t stop buying staples. These products might not be exciting, but their demand is more predictable. And predictable sales are quite exciting to us.

The power of brands

There’s another reason FMCG companies are great at getting their products ringing through tills – their strong brands. A brand can be one of the most powerful tools a business owns. Research shows companies with strong brands have made more than double the return of the biggest 500 US companies – the S&P 500*, but remember past performance isn't a guide to the future.

S&P 500 vs most highly branded companies - 10 year performance

Past performance isn’t a guide to the future. Source: Thomson Reuters* 06/02/2009 to 06/02/2019. Top nine listed companies as ranked by brand value, Brand Finance February 2019

Consumers are loyal to the products they know and love. But when times are tough customers can hold back on big-money buys. They might wait for the next smartphone, but it takes a lot for someone to swap Marmite for a supermarket’s own-brand ‘yeast extract’.

A virtuous cycle

Brand loyalty gives pricing power. FMCG companies can charge premium prices for their distinguished products.

In turn, those extra pennies drop into higher profits. Higher profits can translate into extra returns for shareholders. Lots of FMCG companies have impressive records on the dividend, although of course a great track record isn’t a guarantee for the future.

With higher profits, the company also has enough money to reinvest back into the business. Extra marketing and product development attracts even more customers. More customers means more revenue, and so the virtuous cycle can start again.

You don’t always have to pay top-shelf prices

Given the demand these products still have in today’s uncertain world, you might expect to pay a premium for shares in these companies. But recent market sell offs mean many, but not all, of these businesses are trading at more attractive valuations than in the more heady days of 2015-18, although of course they could fall further.

We think some of these companies have attractive long-term stories, and could benefit from global growth trends far into the future. And now could be the entry point investors have been waiting for. Of course, investments and income go down in value as well as up so you might get back less than you invest.

Here, we look at two different ways to invest in FMCG companies – they’re more varied than you think. We share our thoughts on some big, diverse groups and single-product specialists.


Next – All-rounders

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

Find out more

All-rounders

Specialists

George Salmon
Equity Analyst

Size brings clear advantages for businesses. The power to squeeze suppliers, deliver logistical savings and buy and integrate new divisions.

It can also bring an element of safety to investors, since a variety of products across a range of countries means no one set of customers write the whole story.

I take a look at three major fast-moving-consumer-goods (FMCG) groups, with empires from health and personal care to food and drink. We think they have great long-term potential.

Unilever – EM awards?

We like the long-term set up at Unilever.

The group has a huge range of products and stands out from its peers because of its focus on emerging markets – EM for short.

Around 58% of sales are to consumers in faster-growing developing markets. As these countries become wealthier, their consumers should be more inclined to spend more on Unilever’s branded products. That‘s a long-term tailwind, but as the current turmoil in Argentina shows, there can be turbulence along the way in these higher-risk markets.

Unilever Sales Split (€bn)

Source: Unilever plc final results, 31 January 2019

Recent portfolio changes sharpen the EM focus even more. After selling its spreads business, Unilever has invested €3.3bn in Horlicks. It has a sleepy, bedtime feel about it in the UK, but in India, where malnutrition is still a big issue, it’s positioned more as a health supplement.

Horlicks sales haven’t been so strong recently. Unilever will need to work hard to make sure it can continue its strong operational track record and justify paying a lofty six times last year’s sales.

One brand is just a small slice of Unilever’s pie though, and the focus remains on the core business. It’s aiming to increase sales by 3-5% a year, and raise operating margins too. Simultaneously increasing sales and margins is a nice combination for profits, and is the reason behind expectations for profit growing 20% from 2017 to 2021.

Despite those growth forecasts, Unilever’s share price hasn’t kicked past where it was two years ago. That’s seen the Price to Earnings (PE) ratio fall to 18.8, although that’s still above the group’s long term average. The shares offer a prospective yield of 3.5% this year.

Find out more about Unilever

Unilever features as one of our five shares to watch, read more and see the other four


Nestlé – food, glorious food

In 2018, Nestlé had global sales of CHF 91.4bn (Swiss Francs) – that’s a shade over £70bn. And in FMCG-land, they don’t get much bigger than that.

While the group has a significant shareholding in cosmetics giant L’Oréal, the Swiss company’s focus is on nutrition. That includes confectionary brands like KitKat and Smarties, Nescafe coffee and ice creams like Häagen-Dazs.

A research and development spend of CHF1.7bn, and marketing and admin budget of over CHF20bn, greases the lucrative cycle of innovate, advertise and repeat. Combined with effective management of its portfolio of products, the group’s delivered organic sales growth every year this century.

However, last year’s 2.4% growth was the weakest in that run, with Nestle highlighting the rise of smaller niche competitors and own-brand products.

The group’s confident of returning to the more familiar waters of mid-single digit percentage increases within the next year or so, but a prolonged period in the relative doldrums would impact investor confidence.

Nestlé operating margins (%)

Past performance isn’t a guide to the future. Thomson Reuters Eikon, 7 February 2019. *forecast

Results through 2019 will give us an idea of whether last year was a blip or a longer-term trough, but profit growth is of course not just about the top line.

Possibly as a result of pressure applied by activist shareholders, Nestle’s adopted plans to boost margins. Like Unilever, that should see profits rise, and supports the current valuation of 20.7 times expected earnings, slightly ahead of the longer-term average.

Investors will be hopeful that can translate to a rising dividend, with the shares currently offering a prospective yield of 3%.

Find out more about Nestlé

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Reckitt Benckiser – looking east

At just 16.7 times expected earnings, Reckitt Benckiser trades on a significantly lower rating than Unilever and Nestlé.

That partly reflects the fact it already earns higher margins and so has more limited room for growth, but is mostly due to some recent decisions which haven’t won unanimous investor support.

CEO Rakesh Kapoor unexpectedly announced his departure last month. After leading the group through several successful years, problems with a product in Korea and weakness in China mean he’s leaving under something of a cloud.

Reckitt Benckiser's vs Unilever vs Nestlé - price to earnings ratio over five years

Past performance isn't a guide to the future. Source: Thomson Reuters Eikon, February 2019

The Chinese market is particularly important to Reckitt after it bought $17.9bn child nutrition specialist Mead Johnson. Mead Johnson was struggling before the acquisition, despite structural tailwinds, and recent trading updates have been far from glowing. Supply chain issues led the group to report weaker sales trends recently.

Turning around the Chinese venture will be a priority for the new CEO. But whoever gets the job will at least inherit a business with solid momentum elsewhere in the portfolio.

Sales continue to tick up in Health and Hygiene/Home, with stalwarts Nurofen and Mucinex helping Reckitt deliver growth in developed markets like North America. That’s particularly impressive given how difficult others are finding that market.

The prospective yield is 3.1%, and despite the debt taken on to fund the Mead Johnson deal, cash flows are still sufficiently strong for analysts to expect the dividend to increase in the future. That should mean at least investors get paid to wait and see if Reckitt can deliver the goods.

Find out more about Reckitt Benckiser


Next – Specialists

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

Nicholas Hyett
Equity Analyst

There are positives and negatives to investing in a specialist consumer goods company.

On the one hand it’s potentially higher risk, since you don’t get the diversification that comes with selling very different products.

On the other, it’s a lot easier to get a firm grip on the challenges and opportunities a company faces. Investors can choose to back companies that could benefit from promising trends.

Heineken – still pumping

‘Under-25s are turning their backs on alcohol’ – so said the BBC in October 2018.

You might think that means things are tough for brewers. But industry data suggests that while people might be drinking less, they’re also drinking better. Premiumisation has become the industry’s watch word.

That’s why, while Dutch-listed Heineken isn’t the world’s biggest brewer, we think it’s one of its best. The group’s primary focus is promoting its stable of higher-end, established brands, like Moretti and Amstel as well as the obvious one.

Creating and maintaining a premium image for its products has helped Heineken serve up revenue and margin growth in recent years. For shareholders, this has translated into a steady flow of dividends.

The shares currently offer a prospective yield of 2.1%, and analysts expect dividends to bubble up further in the year ahead, but there are no guarantees.

While Europe is still the biggest contributor to group sales, increasing wages and population growth in emerging markets means it’s easy to see the long-term rationale for recent investments in China and Latin America.

Having said that, emerging market sales are lower margin than more developed economies, particularly in South America. Recent currency swings haven’t helped matters and are expected to weigh on margins. That could hold back operating profit growth this year.

2017 Global Beer Consumption by Region

Source: Kirin Holdings, 7 February 2019. Percentages may not add up to 100% due to rounding.

Nonetheless we think the group’s strong position in European markets, and increasing presence in higher growth economies, means it’s well placed for the long term.

The shares trade on 18.3 times expected earnings.

Find out more about Heineken

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Imperial Brands – still hot

Tobacco shares certainly aren’t for everyone, but in some ways they’re the ultimate example of consumer goods in action. Smokers are famously brand loyal, giving tobacco groups pricing power, while tobacco’s highly addictive nature means sales are very predictable.

The sector often takes heat for the health implications of its products, meaning the shares can be lowly rated. Combined with high margins and recurring revenues, this has made them something of a holy grail for income seekers. Imperial Brands currently trades on a price to earnings ratio of just 9.4 and offers a prospective yield of 8%.

The sector isn’t without its challenges though.

Developed markets have increased taxes, banned advertising, and introduced plain packaging and smoking bans – while US regulators are currently looking at banning menthol cigarettes. As a result all the major tobacco companies have been seeing cigarette volumes decline for years.

Imperial, which owns brands like Lambert & Butler, Golden Virginia and Rizla, has been harder hit by those changes than fellow tobacco giant British American Tobacco. That’s because it has little exposure to emerging markets, where growing populations and increasing wealth mean growth is still possible.

Instead, Imperial’s relied on price hikes and a laser like focus on costs. ‘Brand migrations’ have seen less profitable brands phased out in favour of a smaller number of global giants – reducing marketing and manufacturing costs.

Together that’s helped Imperial deliver more than two decades of continuous dividend growth, and the group has committed to growing the payment to shareholders at 10% a year over the ‘medium term’ although past performance should not be seen as a guide to the future.

Imperial Brands' operating profit per 1000 cigarettes (£)

Past performance isn’t a guide to the future. Thomson Reuters Eikon, 7 February 2019

Of course there’s no guarantee the group will be able to deliver on its plans, and the high yield could be a sign investors are worried the current target is out of reach.

The industry’s going through some upheaval, as the rise of e-cigarettes means there’s a viable nicotine alternative for the first time. But while there are plenty of start-ups trying to get in on the act, tobacco majors are big players too.

We think tobacco companies are the most likely long-term winners. They’ve got the cash, infrastructure and expertise to expand quickly when a winning formula emerges. Imperial’s blu brand is starting to show signs of significant progress, and is expected to positively contribute to profits this year.

Find out more about Imperial Brands


A.G. Barr – still fizzing

A.G. Barr was one of our five shares to watch in 2018, and it’s delivered some strong results for investors.

Unfortunately that also means it’s now trading on a comparatively high price to earnings ratio of 22.5 times, which could put some investors off. But we think long-term, patient investors should remain stay open minded about the company even if there could be some short-term volatility.

The Irn-Bru owner is one of a tiny number of soft drinks to have denied Coca-Cola top spot in its home markets. The Glaswegian tonic ‘made from girders’ has delivered steady revenue growth thanks to a combination of unique flavour and irreverent marketing.

The introduction of a new tax on sugary drinks in 2018 led the group to reformulate its famously sugary recipe. Its navigated the change well and with confidence, boosting sales by 5% last year and gaining market share.

The Barr family are still heavily involved in the business. Former Chairman Robin Barr is a non-executive director, and collectively the family control around 18% of the company. We tend to favour companies with significant family ownership. The desire to pass the business on to the next generation means the board focuses on the long term.

That might explain why A.G. Barr is debt free and has grown or held the dividend every year since the late 90s. A.G. Barr is expected to yield 2.3% this year, although as ever this isn't a reliable indicator of future income, and past trends are not a guide to the future.

A.G. Barr - dividend per share (GBp)

Past performance isn't a guide to the future. Thomson Reuters Eikon, 7 February 2019. *forecast

A.G. Barr might lack the stellar growth we have seen from a company like Fevertree, but being quietly dependable is still a virtue that shouldn’t be underrated.

Find out more about A.G. Barr


Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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