Procter & Gamble ( PG ) is the world’s leading consumer products company and manufactures world-renowned brands like Tide, Pampers, Olay and Braun, among others. It currently has a market price of $85.50 with a market capitalization of $230.89 billion. P&G’s shares have gained 10% year to date and touched a 52-week high of $93.89 in December last year.

We recently revised our price estimate for Procter & Gamble to $82.54 following its poor performance in the second quarter of fiscal 2015 (fiscal year ends in June). The company’s scale played against it in the second quarter as its outsized presence in emerging markets exposed it to severe currency headwinds, which pushed revenues down by 4% year on year. Likewise, cost saving programs could not preclude a year on year decline of 40 basis points in gross margin due to unfavorable geographic and product mix. (Read: Falling Volumes Compound P&G’s Problems as Currency Headwinds Dampen Q2 Results ) P&G has stated that these hostile conditions are expected to persist through calendar year 2015, leading to a slight devaluation in our price estimate for P&G.

In this report, we discuss some of the key trends driving our price estimate for Procter & Gamble.

Declining Market Shares Due to Dipping Volumes

According to our estimates, Procter & Gamble’s calendar 2014 market share declined in nearly all the product categories that it competes in. The decline in market share is a direct result of weakening volumes, which have recently taken a beating due to P&G’s rising prices. The company has resorted to higher prices to counter adverse foreign exchange movements, but the strategy may be pushing customers towards lower priced products of its competitors. This is evident from the fact that P&G’s volumes declined and prices increased in all but one of its business segments in the second quarter of fiscal 2015. Its Fabric Care and Home Care business was the only unit that achieved volume expansion of a marginal 2% year on year.

However, even the 2% volume expansion was not sufficient to prevent a decline of 2% in 2014 in P&G’s global market share for Fabric Care and 0.4% decline in its global market share for Surface, Dish Care and Air Care. P&G has stated that the adverse economic conditions are expected to persist in 2015 and more price hikes are planned in emerging markets to counter this trend. This may result in further deceleration in volumes in the near future, not just in the Fabric Care and Home Care Divisions, but also other major business units like Baby Care & Family Care, and Beauty segments. We have accordingly adjusted our forecast for P&G’s global market share in these segments to reflect the same.

Lower EBITDA Margin Expansion in Near Term

Procter & Gamble’s overall EBITDA margin has remained stable at 22.9% since 2011. This is because decline in EBITDA margin of Fabric & Home Care, and Healthcare segments has been offset by the improvement in the EBITDA margin of the other business units. In recent years, Procter & Gamble has been undertaking major cost saving and restructuring program. The implementation of these programs, especially the brand consolidation program and the supply chain improvement plan, has resulted in substantial restructuring charges. These charges are expected to depress the benefits arising out of these programs in the near term.

Perhaps more importantly, currency headwinds are expected to play spoilsport in the near future on the bottom lines as well. P&G’s heavy exposure to countries whose currencies have weakened is expected to result in an unfavorable geographical mix, thereby offsetting the benefits from cost savings to a large extent. P&G’s predominantly centralized supply chain is also resulting in lower margins, as price hikes are not sufficient to offset the increasing cost of imported products due to currency headwinds.

Consequently, we have revised our forecast for EBITDA margin of the Baby Care and Family Care segment to grow at a slower rate than previously expected. Our original 2015 projection of EBITDA margin of 24.4% for Baby Care and Family Care segment has now been revised to 23.5% due to the aforementioned factors.

The earlier projection for the Fabric & Home Care segment has been retained because of the sale of major low-margin businesses like Duracell. The sale of such businesses, expected to be completed by summer of 2015 (Read: P&G Expects Brand Consolidation to be Over by Summer), may adequately prop up the margins of Fabric & Home Care segment. However, none of the major brands in the Baby Care, Feminine Care and Family Care segment are known to be up for sale, so margin improvement through this avenue is out of question for this segment. We believe that any improvement in the EBITDA margin will be minimal in 2015, but it will gradually pick up going forward as the impact of P&G’s restructuring efforts kicks in.

Lower Capex Due to Brand Consolidation

Procter & Gamble has reigned in its unchecked expansion over the last decade with its brand consolidation program. No major acquisitions are planned in the near future and the only major capital expenditure is expected to be on account of the ongoing supply chain restructuring. P&G is redesigning its supply chain in the U.S. and is building local manufacturing facilities to battle the negative impact of currency headwinds.

Further, the sale of 100 brands is also likely to bring down maintenance capex thereof. This is especially true in the case of the sale of billion dollar brands like Duracell. Therefore, we believe that capital expenditure as well as capital expenditure as a percentage of EBITDA will continue to gradually decline in the future. It may be noted that our revised 2015 forecast for Capital Expenditure as a Percentage of EBITDA of 20% is higher than our original forecast of 19.6%, yet actual capital expenditure is lower. This is because the revised total EBIDTA of P&G is lower than the original forecast which included EBITDA from the Duracell brand.

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