Unilever: A Solid Defensive Company, But Wait For Now (NYSE:UL)

Unilever building

Poulssen

Investment Thesis

High inflation, rising interest rates, recession fears, and even a war. These subjects have been dominating the news headlines during 2022. The stock markets have been butchered, valuations have come down, and growth stocks dropped over 70%. Yes, we could say that the economy is having a tough year and so are the stock markets. The S&P 500 is down 23% YTD and entered the official bear market territory. It is in these times that we look for good opportunities in the market, the so-called safe havens. These are the few companies that will grow, no matter the circumstances, because of their sticky or crucial products and services. Just last week, PepsiCo (PEP) presented its latest quarterly results and nailed it again. Please note, the strength of these companies does not mean rising stock prices. In the end, no matter the financial results, if the global economy drops enough, even these companies will follow. But they might give you a strong outperformance and long-term growth.

Another company within this metric is Unilever (NYSE:UL). I believe Unilever has the financial and product strength to withstand a recession. This is my initial coverage of Unilever and I rate it a hold under current circumstances.

Unilever PLC

Unilever PLC is a British multinational company headquartered in London and specialized in consumer goods. Unilever sells products in several categories including food, ice cream, cleaning products, beauty products, and personal care. The company has a total of over 400 brands with 13 of these having a turnover of over €1 billion in 2021. Unilever splits all its brands into five main divisions:

  • Beauty & wellbeing: This division has a total turnover of €10 billion and includes brands such as Dove, Vaseline, and Sunsilk.
  • Personal care: This division has a total turnover of €12 billion and includes brands such as Rexona, Dove, And Axe.
  • Home care: This division has a total turnover of €10.6 billion and includes brands such as Omo, Domestos, and Cif.
  • Nutrition: This division has a total turnover of €11 billion and includes brands such as Hellman’s, Knorr, and The Vegetarian Butcher.
  • Ice cream: This division has a total turnover of €7 billion and includes brands such as Wall’s, Ben & Jerry’s, and Magnum.

(From next quarter onwards the company will report over just three divisions after a restructuring.)

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13 brands with €1+ billion annual turnover (Unilever)

Just by looking at this portfolio of products and segments, you can probably imagine this business being fairly resilient. Unilever has a lot of household brands for everyday use and consumption in millions of households. During times of less consumer spending, people will still need to clean their houses, take care of their beauty, and won’t stop eating ice cream. Adding to this broadly diversified portfolio, Unilever sells its products all over the world in over 190 countries. 3.4 million people use their products daily and the company had a total turnover of €52 billion in 2021 (52% in emerging markets). The company has a total of 148,000 employees and a market cap of $110 billion.

Despite being a very stable and strong company, the returns over the last years were not great. From 2012 until 2021, the company grew its revenue from €51.3 billion to €52.4 billion. This is pretty much no growth at all over a period of 9 full years. Even worse, if we look at the last 5 years, revenue decreased from €53.7 billion to €52.4 billion. Of the three reporting divisions these were the results of the last 9 years:

  • Beauty and personal care saw strong growth from €35 billion to €42 billion.
  • Food and refreshment saw a decrease from €47 billion to just €38 billion.
  • Home care stayed relatively flat from €18 billion to €20 billion.

So, over the last few years revenue was flat, but Unilever did manage to report positive growth every year. Unilever also stayed relatively resilient during the great financial crisis. As shown below, Unilever saw positive growth in 2008, dropped a little bit of revenue in 2009, and bounced back strong in 2010. What I want to illustrate is that growth may not be going fast at Unilever. This is no high-growth stock, but I assume when you started reading this article, this was not what you were expecting. Unilever is a solid investment under all circumstances. Whether it is Covid or a financial crisis, revenue stays stable. Unilever has also been paying a dividend ever since 1999 although it is not a very consistent one with cuts and increases all over the board. More about the dividend later. Would you had invested in Unilever at the start of 2012, Unilever stock would have returned 53.79% excluding dividends.

Unilever Group's global revenue 2021 | Statista

Unilever

Unilever did not grow much over the last 10 years but gave its investors a solid return and some good sleep during the night. For the years to come, Unilever wants to boost its business into more growth. This plan was boosted by the news of activist investor Nelson Peltz acquiring a 1.5% stake in Unilever and a few months later being named as a board member. This was very good news for investors and gave the stock a boost. Nelson Peltz is a famous investor and is mostly known for his good work at Procter & Gamble (PG), which at the time was in a similar position as Unilever is in now. Peltz managed to boost growth for Procter & Gamble with his vision and ideas and plans to do the same for Unilever. A man like Peltz on the board is never a bad thing.

Unilever has several strategies in place to boost its growth in the future:

  1. They want to accelerate the development of the portfolio into high-growth spaces such as vegan and plant-based food products and healthy alternatives for current products.
  2. And they want to accelerate growth in the US, India, China, and key growth markets. They want to focus investments in these main growth areas, while further strengthening the leading position across all markets.

I am glad to see that Unilever has plans in place to boost growth for the future, but I still find their goals and plans very vague and relative. I would like to see some more concrete plans and goals to boost the firm’s growth. Huge M&A plans seem to be off the board after the complete failure of a takeover attempt of GSK’s (GSK) consumer health division. This hurt the firm’s reputation and was not well received by investors.

I do have to give Unilever one thing: They did deliver on their growth in the key growth markets. During H1 growth in the US was 8.8%, India grew by 14.9%, and China saw growth of 2.2%. China was still heavily impacted by covid lockdowns but saw improvement during Q2 when growth was 9.3%.

Performance

During the first half of this year performance remained strong for Unilever and the company was able to pass, higher costs from inflation, on to its customers. During H1 the company recorded underlying sales growth of 8.1% to €29.6 billion. Operating margin came in at 17% and free cash flow was €2.2 billion (€0.2 billion growth YoY).

  • Beauty and personal care grew by 7.5% to €12.2 billion
  • Food and refreshment grew by 7.3% to €11.4 billion
  • Home care grew by 10.7% to € 6 billion.

Results were strong all over the board mainly supported by price increases. Total volume increased by just 1.6%. The operating margin of 17% was strong and was a 180 basis points increase compared to last year.

As for the outlook for the rest of the year, management believes sales growth to come in higher than previously expected. At the start of the year, the expectation was a solid 4.5% to 6.5% growth, but growth is now expected to come in above these metrics driven by price increases. The FY22 expected underlying operating margin is still expected to come in at 16%, a little under the H1 margin. Unilever does warn about cost inflation and calls this uncertain and volatile. Management expects to be able to improve their margins in 2023 and 2024 through a mix of pricing and savings. Analysts’ estimations for revenue are for current growth to remain over the next few years with growth until 2025 to remain between 3.5% and 4.5%.

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Unilever

Margins stayed strong for Unilever during the quarter and are expected to remain strong. Unilever has been increasing its operating margin over the last few years and plans to keep doing this over the next few years.

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Unilever

Balance sheet and valuation

Unilever has a solid balance sheet with total cash of $6.58 billion and total debt of $33.96 billion. The company is valued at a forward P/E of 16.47, on par with the sector average. Valuation receives a C+ rating from Seeking Alpha Quant. The company’s stock price took a serious hit so far this year and is down by 19.6% YTD, thereby outperforming the S&P 500 which is down 23% YTD. While the financials remained strong, the stock price took a big hit, and this made the stock a lot cheaper than it did at the start of this year.

As mentioned before, Unilever does also return a lot of its capital to shareholders. The current forward dividend yield is 4.33%, 46% higher than the sector average, and therefore receives an A- from Seeking Alpha Quant. The yield is strong, but not very safe with a 75% payout ratio, which is way too high if the income would take a hit from inflation and less consumer spending. Unilever started paying its dividend in 1999 but has been quite volatile with a lot of cuts and increases over the year. According to Seeking Alpha, Unilever had paid a dividend for 11 straight years now, with just 2 years of growth. Unilever sure is not the right stock for a dividend growth investor. With a high payout ratio, chances of a cut are high, and dividend growth will remain low.

In addition to the dividend, on the 10th of February this year, Unilever announced a share buyback program of up to €3 billion to be completed over 2022 and 2023.

Risks

Investing in Unilever does come with some risks. The main risk I see is very company specific. Like I said earlier in this article, I do not see any concrete plans from management (except for price increases) to ensure revenue growth. If Unilever was not able to grow its revenue, at current valuations, I think there is no upside at all. Your investment in Unilever would be dead money. Another risk with the price increases is consumers looking for other options. Nobody wants to pay excessive prices for their shampoo, ice cream, or cleaning equipment and so I believe Unilever should act carefully about this. I will keep a close look at natural sales growth (excluding price increases) and see if these hold up. If not, Unilever would see its market share deteriorate and so its share price. The upcoming recession will once again challenge Unilever to show its strength in consumer goods. If Unilever would not be able to keep up its reputation and see a significant drop in revenue, there could be a significant contraction of valuation metrics and a lot of downside risk.

Conclusion

Although the risks mentioned above paint a pretty dark picture for Unilever stock, I do believe Unilever has most of this under control. With activist investor Peltz on board, growth may be on the way for Unilever. Peltz has a great track record and hopes to repeat his previous successes at Unilever. I believe Unilever is a solid company to own during uncertain times, thanks to its reliable portfolio of products.

The company does come with some risks and valuation is still elevated for a company only growing a few percentages a year and without a solid dividend strategy. The dividend yield is high, and this does support an investment thesis, but the payout ratio is relatively high and so there is a significant risk of a dividend cut if the economy takes a bad turn. For these reasons I rate Unilever a hold for now and would advise waiting for management to come up with solid growth plans and for economic conditions to cool down. I rate Unilever a hold.

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