Procter & Gamble: Correcting Course

02/02/2016 7:00 am EST


Josh Peters

Editor, Morningstar DividendInvestor

Our latest featured recommendation boasts a 59-year streak of annual dividend growth—one of the longest such records in the world—asserts Josh Peters, editor of Morningstar DividendInvestor.

Procter & Gamble (PG) is working to course-correct from entering too many new markets too quickly and failing to offer new products that win with consumers.

However, efforts to shed around 100 brands (more than half of its portfolio) indicate that P&G is becoming a more nimble and responsive player in the global household product arena.

We view this as important, given the stagnant growth in developed markets and slowing prospects in emerging regions.

Given its leading brand portfolio, vast resources, and multiple categories (fabric care, baby care, feminine care, and grooming, among others), we contend that P&G is a critical partner for retailers.

We don't think this will change as the firm slims down; the 65 brands it will keep (including 21 that generate at least $1 billion in annual sales) account for 90% of revenue and 95% of profits.

P&G is also driving efficiency gains with its $10 billion cost-saving initiative by cutting overhead, lowering costs, and increasing productivity.

We don't believe the dividend faces any meaningful risk of being cut: P&G's wide economic moat, healthy balance sheet, abundant free cash flow generation, and low cyclical risk all lend support to a generous dividend as well as our Morningstar issuer credit rating of AA.

But in most industries, payout ratios beyond the mid-60s leave little upside for dividends in the absence of EPS growth, and in fiscal 2016, it seems even mighty P&G has hit that wall.

The current yield of 3.4% is well above the US market average, but it will probably take more than the 3% dividend growth of 2015 to make P&G a rewarding investment over the long run.

Yet we remain optimistic about the firm's long-run prospects, particularly as its restructuring and divestiture initiatives draw to a close over the next six to nine months.

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