Saturday, January 17, 2015

Why did I purchase Unilever (UL)

December ended up a lot busier than usual, as well as a lot busier than I had planned. I was quite content with finishing up the year with the initiation of a position in Walt Disney Co. (DIS). Of course, then Mr. Market continued his depressive mood about the future of energy, which allowed me to add to my equity stake in ONEOK, Inc. (OKE).
That was going to be it.
Until it wasn’t.
After the elimination of key executives and a credit downgrade (both of which came after numerous bad omens), I had to listen to my gut and sell outof American Realty Capital Properties, Inc. (ARCP). It’s no call on the firm’s direction or future, but rather an acknowledgement of my risk tolerance and lack of desire to speculate. The REIT has since completely eliminated the dividend, which means this is the second time now I’ve sold right before a dividend cut/elimination. I’m no fortune teller, but one has to follow the fundamentals.
This freed up a lot of capital for me; capital I neither wanted nor planned for. So I took a look across my portfolio and watch list for the best possible opportunities for this capital. I deployed a good chunk of it when I averaged down one last time on BHP Billiton PLC (BBL). The remainder of the capital was deployed as discussed below.
I purchased 40 shares of Unilever PLC (UL) on 12/17/14 for $40.14 per share.

Overview

Founded in 1930, Unilever Plc is a global manufacturer and supplier of consumer products. They sell their products in over 190 countries.
The company operates in four segments: Personal Care (36% of fiscal year 2013 sales); Foods (27%); Refreshment (19%); and Home Care (18%).
They further operate in three geographical product areas: Asia, AMET (Africa, Middle East, Turkey), RUB (Russia, Ukraine, Belarus) (40% of FY 2013 sales); The Americas (33%); and Europe (27%). Emerging markets comprise 57% of UL’s business.
Unilever sports 14 €1 billion brands, among a portfolio of more than 400 brands. Some of their most popular brands include: Axe, Ben & Jerry’s, Breyers, Country Crock, Dove, Hellman’s, Klondike, Knorr, Lipton, Magnum, St. Ives, Surf, and Vaseline.
It’s important to note that Unilever was founded in 1930 following a business merger between Naamlooze Vennootschap Margarine Unie of the Netherlands and Lever Brothers Limited of the UK. As a result, two controlling companies were set up – Unilever N.V. and Unilever PLC. They operate effectively as a single economic entity. Both the Dutch and UK companies offer ADR shares that trade on the New York Stock Exchange, and both stocks represent equal ownership in Unilever. This article will be referencing the (UL) shares, which are the ADR shares of London-listed Unilever Plc. These shares do not have any foreign dividend tax withholding due to a tax treaty between the US and the UK. Unilever N.V. is listed in Amsterdam, and its ADR shares trade on the NYSE under (UN).

Conviction

I’ve discussed this a lot lately, but if I’m willing to invest in a company, then I’m more than likely willing to continue investing, assuming capital, valuation, and portfolio weights all allow. It’s important to have conviction in a stock, which means any weakness in pricing to the downside is nothing more than an opportunity. Not having conviction means volatility is scary, when volatility should actually be welcomed.
I mentioned when I published my second purchase of Unilever shares that I’d like to get this position up to 100 shares over the near term, and this transaction allowed just that.
Of course diversification is also important, as having conviction doesn’t trump bad business decisions or deteriorating fundamentals. I think the recent problems with ARCP highlight how important it is to diversify your portfolio. Even though I took my biggest loss ever on that stock in regards to the percentage, the fact that it was a small part of my portfolio meant the realized capital loss was rather modest in absolute terms.
Nothing has really changed for Unilever since I initiated a stake in the company back in October (I reviewed all of the fundamentals and qualitative aspects in that article). They continue to shuffle the product portfolio a bit as they pick up personal care products brands – UL just picked up Camay and Zest fromProcter & Gamble Co. (PG). Other than that, this is a long-term investment, which means daily, monthly, or even possibly yearly changes won’t really make much of a difference for me, as long as the long-term fundamentals remain intact.
This remains just a powerhouse of a company. More than 2 billion consumers use a Unilever product every single day, according to the company.  And they sport the #1 or #2 market share in a number of key markets across most products they offer.
The stock yields 3.57% here, which is very attractive in comparison to many other stocks in this sector. It appears to me that a defensive consumer stock with that kind of yield in a low-rate environment is a great opportunity.

Risks

UL remains a low-risk investment, in my view. The demand for many of their personal care, home care, and food products should remain relatively unchanged through economic cycles, meaning that it’s about as recession-proof as it gets. However, competition in the product lines UL competes in is strong, which can weigh on pricing and shelf space. In addition, input costs can vary, which can affect financial results. Finally, like any global company, they face currency exchange rate fluctuations, which can short-term headwinds or tailwinds.

Valuation

Shares carry a P/E ratio of 18.32 here, which is in line with its five-year average. In addition, that’s below the broader market’s P/E ratio.
I valued shares using a dividend discount model analysis with a 10% discount rate and a 6.5% long-term growth rate. That growth rate appears to be rather conservative, as it’s below the rate at which UL has grown dividends and earnings per share over the last 10 years. The DDM analysis gives me a fair value of$43.66. That means I received a margin of safety near 9% on a conservative valuation model, which is just fine by me.

Conclusion

There’s really not much to dislike about Unilever here. You’ve got established, diversified, well-known, global brands spread out across products that people really can’t do without on a day-to-day basis. No matter what happens with the global economy, it’s unlikely people are going to stop buying their trusted soap brand or the margarine they use for dinner. Their exposure to emerging markets will be a huge tailwind at some point in the future, in my opinion.
The valuation appears at least fair, with a yield that is extremely attractive. I’m more than happy to now own 100 shares in this global consumer products giant. I plan to be a Unilever shareholder for decades to come.
This purchase adds $57.39 to my annual dividend income, based on the current $0.3587 quarterly dividend per share (after the $0.005 ADR fee).
I’m going to include current analyst valuation opinions below, as I use these to concentrate my reasonable valuation estimate:
Morningstar rates UL as a 3/5 star value, with a fair value estimate of $44.00.
S&P Capital IQ rates UL as a 2/5 star sell, with a 12-month target price of $35.00.
I’ll update my Freedom Fund in early January to reflect this recent purchase.
Full Disclosure: Long DIS, OKE, BBL, UL, and PG.
What is your opinion on Unilever right now? Think this an attractively valued defensive investment? Why or why not? 

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