Monday, January 19, 2009

Procter & Gambling

This blog is devoted to matters of equity, in both the moral and financial senses of the word. We are not interested in providing stock analysis, except where such is relevant to broader economic, financial and related policy considerations. That said, we live in a world where stocks are major actors in our economic system, one which is unbalanced. It is no longer news that our large financial companies are troubled. It is also not news that General Electric is at least half a financial company, and that that half is troubled. What may be news is the extent to which a prototypical consumer non-durable company is an emperor that also has no clothes.

Consider Procter & Gamble. The company has been around longer than you or me. It seems as secure as the Royal Bank of Scotland seemed not long ago. It raises its dividend yearly. Yet what we have learned in the past year and a half is to ignore dividends (yes, they can lie) and restrain our enthusiam for the value of profit and loss statements. What we need to really focus on is a company's balance sheet. It will surprise many that Procter & Gamble basically reports that it is in a sense running on fumes. This writeup relies on P&G's SEC filing of its September 2008 quarter, as reported on Yahoo's Finance site.

Consider:

Total current assets: $25 B
Total current liabilities: $38 B

Therefore net working capital is negative $13 B. (Ed.: This is real money, even for a bank!)
Worse, cash plus receivables are $4 B less than payables.

Surely, a rich old company such as P&G must have lots of long-term assets. Well, not exactly.

Property, plant and equipment plus "other assets" are $24 B.
Long-term liabilities are $38 B.

Excluding intangible and good-will assets, the Company has a long-term asset balance sheet that is valued at negative $14 B.

The tangible net worth of "PG" is negative 26.7 billion dollars.

Now, what are its business prospects? I have no idea, neither do you, and really neither does the company. The U.S. and the other parts of the world where P&G makes the bulk of its profits are slow-growth/no-growth sectors at best, but are currently experiencing a new era of frugality. In the current environment, people will buy store brands like crazy. I hear that local dentists are laying off receptionists and struggling to pay their bills, people are deferring getting their teeth cleaned, etc. In that environment, people will definitely save a buck or two buying cheaper toothpaste (which doesn't do much for you other than lubricating a toothbrush when it removes stuff from your teeth, anyway, I am told by my dentist), cheaper toothbrushes, cheaper household goods . . . and thus P&G is, you can be certain, either experiencing margin pressure and/or sales volume pressure.

I have no idea whether the stock market has discounted all this and for purposes of this blog I have no interest in whether PG is a good investment or not. The point here is that there is really less "there" there in the company beyond its current turnover than one would think. PG is yet another example of financial engineering; it has a stock market value of $172 B against its -$27 B of tangible net worth. If economic times stay bad and business goes downhill, there is little obvious asset base behind this company. Contrast that with Apple Computer, which in a down-cycle for its business prospects several years ago was a financial fortress, with massive amounts of cash and no debt.

As long as Apple got a mention and some praise (and it remains debt-free), consider also the venerable AT&T, which markets Apple's IPhone. "T" is a twin to P&G financially: negative $23 B in tangible net worth (much of which may be overstated due to technologic innovation) against a stock market value of $149 B.

When we look hard at these behemoths, there's less "there" there than we think. That's a trend that goes on and on, in differing degrees, to IBM, GE, the Dow Transports, most NASDAQ stocks (check out Oracle's $4 B negative tangible net worth), etc. We all want to hope for the best, but Dr. Taleb of the Black Swan keeps pointing out that we have to look out below.

To change metaphors, we may be in a sort of eye of the storm. We know we've been battered, but we see stability and help from low money rates and other central bank maneuvers, and know (or think) we can repair the damage to date. As a Floridian, I know to fear the winds that come from the other direction after the eye passes at least as much as the first blow. And I fear that the next blow will be from an unexpected direction. It may be that the P&G's and AT&T's of the world will blow up next.

Not a prediction, certainly not a hope, but definitely a caution.

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