Tempus: Consumer goods hold promise for investors shopping around

The great consumer downturn was really something of a damp squib. Yes, sales fell across the board, but in the middle of the first global recession since the Second World War, this is far from the worst case scenario.
Emerging markets, which many feared would see huge sales declines, have stayed robust. In the more mature markets such as Europe and the US, while there has been some trading down and more promotional sales, people have, in the main, continued to buy.
And those companies, such as Nestlé and Danone, which specialise in food, have stayed relatively resilient as consumers eat at home more in an effort to save money.
As the third-quarter results season gets into full swing, and major Western economies start to ease out of recession, it is worth looking again at consumer goods stocks.

Innovation is what these companies are lacking. There is only so much reinvention one key product can take. While the various updates of a product such as Reckett Benckiser’s Finish — four different kinds of dishwasher tablet including Powerball Quantum and Powerball Max in 1 at the last count — have proven successful at boosting sales, it has been a while since a really new product caused a stir. When Unilever is touting a new Dove deodorant which claims to limit the regrowth of underarm hair, there seems to be a serious lack of new ideas in the market.
Investment in research and development is needed, along with increased marketing spend as the recession starts to ease off.
Of course, there is the possibility that Unilever, Procter & Gamble and their peers have laboratories full of exciting new products ready to be unleashed on the world once consumers are spending more, but if so, they are keeping it remarkably quiet.
There are also signs in the US that Americans are moving away from their impressive brand loyalty. Previously only about a fifth of the market was reserved for own-label goods, which can attract the same social stigma for our cousins across the Atlantic of getting a bus instead of driving a car, compared with around two fifths in Europe. Yet private-label sales have grown by about 9 per cent in the US this year, with Kroger, the supermarket chain, now making about 35 per cent of its sales through non-branded goods.
There are still plenty of points in favour of consumer goods stocks as a dull but safe bet. With European consumer manufacturers still trading at a 6 per cent discount to their long held averages on 2009 earnings and an 18 per cent discount to their long held valuation averages on 2010 earnings, there is still some scope to buy before the upturn Jeffries recently raised their price targets by an average 8 per cent across the sector, citing a “distinctly more positive tone” in the third quarter reporting season.
At Unilever and Cadbury in particular, the positive effects of restructuring and management shake-ups have yet to be seen in their entirety.
Reckitt Benckiser impressed in the second quarter by raising its sales and profit forecasts for the year, as larger rivals cut theirs.
Nestlé, which has accelerated a Swfr 25 billion (£15.2 billion) share buyback programme, is expected to exercise its option to dispose of Alcon, the eyecare business, soon, creating an even bigger cash pile to return money to shareholders.
Associated British Foods (ABF), which has become much better known as the parent of Primark, the cheap fashion chain, is also due a boost to its sugar profits from EU sugar reforms.
As sugar from less developed countries, such as South Africa, where ABF has extensive operations, can now be imported duty free, the sugar side of the business may pull back some of the kudos from Primark soon.
Danone, which beat forecasts with a 4.1 per cent rise in third-quarter underlying sales yesterday, showed how to drive volumes up through cutting prices. Input costs, leaving aside a few notable exceptions such as cocoa, are coming down, so it is time to look carefully at more competitive pricing across the sector.
There is also the possibility of more mergers and acquisitions activity in the sector. While Kraft’s informal bid for Cadbury does not seem to have attracted a serious counter-bidder, it could help to stimulate interest from private equity, when the big players return to the market.
Before you pick a stock, look very carefully at its exposure to emerging markets as, essentially, in most of the developed world the main brand categories are dominated by two or three big players and this is unlikely to change in the short-term. In emerging markets, retailers are generally less able to produce or buy-in their own brands, and the own-brand manufacturers are generally of lower quality, leaving the market wide open for the big brands.
Unilever, which derives more than half of its revenue from emerging markets, is better placed in this sense than Procter & Gamble. Despite announcing that profits in the second quarter were down 17 per cent from a year ago, the share price has risen 22.4 per cent to £18.66 in the past three months, indicating that the market believes recent arrival Paul Polman’s tale of reinvention.

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