New holding Edgewell Personal Care, Reduce in Dairy Farm

I have been looking for a long time for some defensive consumer staples companies, with strong brands and a reasonable valuation. Many of the companies with strong brands are based in the US and the recent sell-off has created some opportunities in this space. As of close today I take a 4% position in Edgewell Personal Care (EPC).

Edgewell Investment Thesis

The investment thesis is two fold:

1. Attractive valuation for a very defensive portfolio of strong consumer staples brands. The company is taking efforts to reduce overhead cost and reinvest in the brands. From conference calls I sense a urgency from management to turn this around. But from a valuation standpoint a larger turnaround is not needed, even with no growth, the company is fairly valued at current prices.
2. The Gillette commercial will in my view strengthen sales of razors and blades for all competitors. Edgewell will most likely be the competitor that benefits the most, given geographical sales and how Edgewell’s brands are competing head to head with Gillette in physical stores.

I also reduce my Dairy Farm holding in half. Below is a shorter summary of my thinking around this two investments:

Edgewell Personal Care

Edgewell Personal Care has a strong brand portfolio of many well known brands:

Business is divided in 6 segments in order of Revenue (within brackets):

1. Razors and blades – the by far largest segment and about 50% of Revenue (1185m USD).
2. Sun care products, especially from a margin perspective this segment is doing very well (342m USD).
3. Tampons, pads and liners, almost as large as the sun care segment, but less profitable (329m USD).
4. Shaving gels and creams (145m USD)
5. Infant care products (125m USD)
6. Skin care products (108m USD)

Changes in the razor market

For a long time, there were 3 big companies in the Razor and blades market – P&G with Gillette, the French company BIC, with it’s BIC Razors (especially big in the disposable razors) and then there is Edgewell with mainly it’s Schick and Wilkinson Sword brands. These three companies has enjoyed great margins on their products. As a side note, Gillette used to be a Warren buffet holding which he in 2005 sold to P&G.

What has happen lately is that companies like Harrys and Dollar Shave Club have come in and offered a subscription based Razor blade deal, where people get their razors and blades delivered home by mail. Especially in the US this has really taken off and hurt the three large companies. Harrys now have a 2% market share and Dollar Shaving Club around 8%. The company that has hurt the most in this P&G, but it’s been tough on all 3 brands. So the shaving market has more or less been disrupted by this new startups that quickly gained a large market share.

So far I guess this doesn’t sound like a great investment case. New entrants coming in, margins for razors has of course also been coming down due to this. But as stated above, the stock has been hammered, the valuation is very attractive. The stock is also not given credit for its defensive products, other companies in this segment have been trading up in the last few months. Other than that, something has also happened lately..

The Gillette commercial

I’m not sure why, maybe because Gillette also wanted to play in this new cool hip social media built group of Shaving Clubs etc. A few days ago they launched a in my view highly controversial commercial.

This commercial has so to say gone, viral. Like really viral and it seems to just be growing. I’m not easily provoked and frankly I don’t care much myself about this commercial. But A LOT of other people seem to do. Currently the video has 16.5 million views and if you read the comments on YT (or elsewhere) you realize that there are many people that decided to switch from Gillette to something else these last few days.

I think the market currently under-estimates the impact of this video, the internet will not forget this, even if they take the video down. Although the market under estimates it, I don’t really build my investment case around this. It’s more of a bonus kicker to my investment. Even without this badwill for the Gillette brand I think Edgewell is a good defensive holding at a reasonable price.

The other brands

Especially Banana Boat and Hawaiian Tropic are market leaders in sun care products. I myself use these brands frequently and I know throughout many countries the only brand that has better shelf space are Niveas products (owned by German listed Beiersdorf). Also the tampon and feminine hygiene brands are strong brands with a long history in many markets. Currently just like for Essity, high pulp prices has decreased margins on these products. Pulp prices have started to ease off now and I believe this segment will also improve profits, just as I believe my Essity holding will recover in the coming year.

So in general I think the market does not give enough credit for this portfolio of strong brands, which brings me over to the valuation.

The Valuation

From a peer valuation perspective Edgewell is cheap.

Company	MCAP (USD billion)	P/E	P/CF	EV/EBIT	ROE
Edgewell	2.1	11	8	9	5.9%
Procter & Gamble (P&G)	227	22	15.9	15.2	18.7%
Societe BIC	4.7	18	12	11	13.9%
Beiersdorf	25	29	25	14.3	13.4%

Edgewell is trading at a significant discount to peers on all metrics. One explanation for the discount could be the poor ROE. But this figure is somewhat distorted in the latest figures, a best estimate of future ROE is around 10%, still below competitors though. As stated above I take a 4% position in Edgewell as of today’s closing price.

Reduce Dairy Farm

My previous analysis of Dairy Farm: Dairy Farm Asian Food Giant

While most stocks and especially companies in Asia has had a terrible 2018, Dairy Farm stock has just continued it’s slow trend upwards. This is actually very surprising to me and I have a hard time figuring out why it’s trading so strongly. Perhaps it could be something going on with Tencent, which there has been some rumors of.  I have been scratching my head quite a lot on this holding. Back to my superforecasting book, I have so far been totally off in my investment case in Dairy Farm.

From a company performance perspective though, there has so far not been any signs of turning around the Supermarket segment, which is the segment that could really revalue the stock. This is also the main reason I invested, that I see it as likely that they could increase their margins significantly here. Instead what has saved Dairy Farm are Mannings stores which sells beauty and health products/supplements. A popular store for Chinese visitors to load up on goods before heading back to China from Hong Kong. This is in my analysis the segment I worried about would collapse in sales, given all the e-commerce. Instead it has been the best performing segment.

Listening to the conference call, the new CEO really impresses me, he points to all the issues in the company. One starts to understand why this has been such an underperforming group over the last few years. I think the new CEO really will be able to make a difference, but it will take a long time. This is no easy nimble ship to turn around. So maybe the stock market really likes what the CEO is telling them and gives him the benefit of the doubt. But I think we will see Dairy Farm trade down on disappointing reports, before it trades up again.

The valuation at P/E of about 26 for 2018 is not cheap, especially after this sell-off. Dividend yield of 2.2% not very impressive either. It’s all about that margin expansion for the supermarkets. I still want to hold this very long term. If this company is well managed, it is a cash machine with a lot of room for growth. But the stock is my largest position and I think there are better opportunities out there. In the spirit of being long term though, I’m not willing to sell the full holding, but reduce it in half, to about a 4% position.