Unilever: A Wide Moat

10/02/2014 8:00 am EST


Josh Peters

Editor, Morningstar DividendInvestor

The United Kingdom-based company has a wide economic moat rating that stems from its expansive global distribution platform and portfolio of essential products, explains Josh Peters, editor of Morningstar Dividend Investor.

Unilever (UL) is a giant consumer product firm; this status has resulted partly from its foresight to secure a first-mover advantage internationally, particularly in fast-growing emerging markets, where it derives about 57% of consolidated sales.

The firm remains on the offensive and continues to put resources behind innovative new product launches, marketing, and cost-saving initiatives.

In our view, this spending is driving balanced and profitable growth (in contrast to several peers) as sales reflect higher prices and increased volume, a notable achievement in today’s difficult environment.

In the past, an extremely decentralized and complex structure hindered Unilever’s ability to realize the growth and profitability that should exude from one of the largest consumer packaged goods players.

However, management has sought to reduce the complexity of its operations over the past few years by streamlining IT systems, improving marketing efficiency, and leveraging its purchasing. These efforts appear to be gaining traction, as operating profits have generally held up despite cost pressures.

In April, Unilever continued a long-running pattern of annual dividend increases—uninterrupted since 1996—with a 5.9% hike to EUR 0.285 a share quarterly, or $1.51 per Unilever PLC American Depositary Receipt on an annualized basis.

This raise was a bit below trend and it’s not hard to identify why.  Growth in emerging-market economies has slowed substantially. Meanwhile, industry conditions in most mature markets remain moribund.

As a result, operating earnings per share will probably be flat to only slightly up between 2012 and 2014, during which time the dividend payout ratio rises to 70% from 61%.

Circumstances like these are nothing new to Unilever, which continues to execute its strategy well in the areas it can control. Management continues to prune non-core brands (recent divestitures include Ragu and Slimfast) and tilt the overall portfolio away from packaged foods toward personal-care products.

We do not find Unilever’s payout ratio concerning, given the reliability of its operating profits, healthy generation of free cash flow, and strong balance sheet.

More likely, shareholders may face a few years of smaller dividend increases in order to bring the payout ratio back down, but a long-term trend of high-single-digit growth—we estimate 6%-7% a year—remains intact.

Recently yielding 3.5%, Unilever offers an attractive total return profile, in our view.

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