Colgate update – Crestwood Advisors

Good morning,

I wanted to send an update on Colgate ahead of earnings … Please see below.

Year-to-date, consumer staples have been under pressure, with rising raw material costs & salaries and need for increased advertising expenses, while revenue growth showing no signs of acceleration, pressuring margins going forward. While typically a defensive sector trading higher in down markets, staples have traded at a high multiple for years in a bull market, as stock prices were supported by:

· rising margins in a low oil environment and low raw material costs in general

· heavy M&A activity (thanks to low cost of borrowing and active private equity in the sector – think about the 3G guys).

XLP (consumer staples index) vs IVV (SP500 index) returns:

As with many other consumer staples names, Colgate is experiencing growing global competition enabled by e-commerce growth, pricing pressure and a consumer that is less brand loyal than before. Smaller, local brands “with a purpose” are now able to sell directly to the end client, bypassing the traditional channels (supermarkets) that acted as gate keepers ensuring brands with deep pockets had shelf space. Now under pressure, big brands compete on price in more mature markets. For the past couple of years, the multinationals have been in a buying spree of smaller, more innovative brands, trying to bring back growth and novelty to their portfolio.

At the CAGNY conference (focused on consumer staples) in February, CL focused on 3 themes (nothing new but a good recap):

1. Driving organic growth: mainly targeting marketing around “brand purpose” to grow market share, steady innovation, e-commerce expansion

2. Maximizing productivity: their global growth and efficiency program is on track (shared services extension, expansion of commercial hubs, supply chain optimization)

3. Increasing FCF and returns: capex to drive future growth, bolt-on M&A, dividend growth, share repurchases

Colgate has historically been growing faster than peers thanks to higher exposure to emerging markets, and its returns rank in the top quartile among peers. Colgate’s stock is also supported by a takeover potential (CEO saying he’s willing to sell the company at the right price -$100/share?-, Unilever bid rumors in 2017). For this coming year, consensus expects low double-digit EPS growth thanks to lower tax rate and FX. Its internal cost savings initiative should offset COGS inflation. On the revenue front, organic growth should see an acceleration from e-commerce growth and an increase in advertising (30% of spending is in digital marketing). Its working capital is not under pressure, with a shorter cash conversion cycle which we see as a sign of strength (company can negotiate better supplier payment terms while getting paid by its customers faster). ROIC is above 30%.

Overall we remain positive on Colgate. Revenue & EPS trends are positive going forward (including FX and M&A/divestitures). The stock is fairly valued today but there is M&A optionality that also provide a floor to the stock.