UL - Unilever Stock Can Potentially Beat The Market With Resilient Revenue Stream

2023-09-27 05:45:38 ET

Summary

• Unilever is a leading consumer goods company with a diverse portfolio of over 400 brands and a global reach.
• Despite recent underperformance, Unilever has strong financials and a resilient revenue stream, even during the pandemic.
• The company's growth trajectory has been modest, but there's more than enough potential to close the valuation gap with peers.

Unilever (UL), a British-Dutch multinational headquartered in London and Rotterdam, stands as one of the world’s leading consumer goods companies. It owns a vast portfolio of over 400 brands that are utilized by approximately 3.4 billion people across the globe. Renowned brands such as Axe, Ben & Jerry’s, Dove, and Hellmann’s exemplify the diverse range Unilever has to offer, spanning sectors including beauty and wellbeing, personal care, home care, nutrition, and ice cream.

Historically, Unilever has been a strong performer. But the stock has lost its way in recent years and underperformed against peers. That underperformance has given way to an undervalued share price which presents a compelling opportunity for longer term investors.

Historical Perspective

Unilever stock has been a reliable investment in the past. From January 2005 to January 2020, the stock produced 329% total returns, outpacing the S&P 500 total return by roughly 70 percentage points.

However, Unilever has faced problems recently with underperforming brands as well as a failed attempt to acquire pharma company Haleon ( HLN ). As a result, Unilever stock has underperformed, falling 1.5% since January 2020. Meanwhile, Unilever's closest peer, Procter & Gamble (PG), has seen a rise of over 30% in the same period.

Despite this underperformance Unilever still exhibits strong financials that are not necessarily worse than PG. Converting into US dollars, revenue over the last 12 months sits at $66.4 billion, net income at $9.0 billion, and free cash flow at $6.8 billion. With $6.9 billion of cash and $24.6 billion of long-term debt, the enterprise value stands at $141.7 billion. This means that Unilever stock is valued at 2.1 times revenue, 13.8 times earnings and 20.8 times free cash flow. Additionally, the company offers an attractive dividend of 3.65%.

Segment Diversification and Pandemic Resilience

Unilever’s diversified revenue stream across various segments has showcased its resilience, even during challenging times like the pandemic, where the company’s revenue was down only 2%. The everyday necessity of many of Unilever’s products, such as food, shampoo, and detergent means that customers still buy these products during hard times. And that includes periods of high inflation. This enables the company to maintain steady revenue streams and more easily raise prices during inflationary periods.

Growth Trajectory and Market Valuation

While Unilever exhibits stability, its growth trajectory has been modest. The company has witnessed top line growth of only 1.7% annualized over the last decade. Part of this underperformance is attributed to retaining numerous mediocre brands and reducing marketing spend. With the stepping down of CEO Alan Jope and the appointment of Hein Schumacher, along with the involvement of activist investor Nelson Peltz , Unilever aims to revitalize its growth.

This is what makes Unilever a compelling opportunity. The renewed impetus from new management and Peltz gives the company a catalyst to close the valuation gap with peers like Procter & Gamble. Indeed, it's not quite clear why that gap even exists. PG has grown its net income only 2.6% a year over the last 10 years and its grown revenue only 0.23% a year. Meanwhile, Unilever has grown net income 5.9% a year and revenue 1.7% a year.

And yet, PG trades at 25 times earnings to Unilever's 14. While Unilever looks like a good investment in its own right, it's more than tempting to pair it with a short PG trade.

Global Presence and Stock Exchange Listings

Unilever’s colossal presence is felt in over 190 countries, and its stock is traded on multiple international platforms including the London Stock Exchange, Euronext Amsterdam, New York Stock Exchange, and Indonesia Stock Exchange. It is a constituent of notable indices such as the AEX and the FTSE 100, representing its high market capitalization and stability. It's worth noting at this point that Unilever’s growth is not solely organic. The company is consistently involved in strategic acquisitions, contributing to its revenue growth.

The current environment, with its high inflationary pressures has seen a rise in financial distress which is no better illustrated by the recent uptick in US bankruptcies . This is actually not a bad time to consider Unilever due to the defensive nature of its portfolio. It's during difficult times that Unilever is able to outperform. And during periods of weakness Unilever is able to pick up smaller brands at more favorable prices.

Investor Considerations and Future Outlook

Investors eyeing Unilever should consider the company’s ability to pass increased costs to customers. This is evident from the 2022 revenue surge mainly due to inflation, which was achieved without compromising margins. Despite being a mature company with lower growth rates, its stable revenue and profitability make it appealing, especially for risk-averse investors.

If Unilever manages to sustain an earnings growth of 5% per year for the next five years, its valuation could close the gap with PG. A 5% growth rate in net income over the next 5 years would take earnings up to $11.5 billion in 5 years time. Assume a P/E multiple of 20 and the market cap gets to roughly $230 billion. That works out to an annualized investment return of 13.1%.

Include dividends and that return could push 16%, particularly if dividends increase at a 2% rate of inflation. That return seems feasible for two reasons. First, 5% earnings growth is lower than the 5.9% growth rate seen over the past 10 years. Second, a P/E multiple of 20 sits right between the current multiple of 14 and PG's current multiple of 25.

Ultimately, that projection may be on the optimistic side. There's no guarantee that Unilever can continue to grow earnings at 5% per year or increase its dividend. And the company will no doubt want to pay down some of its $25 billion of long-term debt. Still, there appears to be limited downside at the current valuation. Even a 10% annualized return from here is likely to be a market-beating investment. This is a high quality, defensive business which looks underpriced.

Conclusion

Unilever, with its diversified portfolio and global footprint, remains a key player in the consumer goods industry. Despite recent underperformance and modest growth, the company’s stability, strategic acquisitions, and potential for future growth make it a noteworthy consideration for investors. Whether Unilever can rejuvenate its brand vitality and accelerate growth under new leadership remains to be seen, but its enduring presence in daily consumer lives worldwide suggests a promising future. The stock also looks to have limited downside. You can't go far wrong with Unilever at this level.

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