Soap & Cleaning Materials Stock Outlook: Near-Term Picture Drab

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A strong U.S. economy with low unemployment levels, improved consumer spending and consumer confidence is enough fodder for the well-being of the consumer-focused sectors/industries. However, the near-term growth prospects of the soap and cleaning materials industry are in question due to rising competition from cheaper private-label products, as well as increased raw material, transportation and packaging costs.

Further, uncertainty in global markets and unfavorable foreign currency exchange rates have increased troubles for industry players leading to soft sales and weak margins.

Players in the industry are resorting to price increases as an option to make good the impact of higher costs. This is clear from Procter & Gamble’s (PG Free Report) recently announced plans to raise prices for some of its leading brands, mainly to offset the impact of rising commodity (due to costlier wood pulp impacting the paper industry) and transportation costs. These price increases are likely to hurt sales initially, posing a near-term headwind. However, the effects of these increases are expected to moderate later on.

In response to the operational headwinds, the soap and cleaning materials companies are focused on bringing innovative and eco-friendly products with natural ingredients to attract today’s environment-friendly and health-conscious consumers. This has considerably helped companies to boost demand and market share. Notably, Colgate-Palmolive’s (CL Free Report) newly launched Naturals range of products is doing extremely well in Asia and across Europe, which is aiding the company’s market share.

Furthermore, these companies are looking to counter the operational shortcomings through long-term restructuring plans aimed at reducing structural costs and improving margins. These productivity and cost-saving plans focus on cutting costs in areas like supply chain, research & development, marketing, and overheads, alongside investing in brands, e-commerce and technological advancements. Additionally, the industry has been witnessing numerous brand divestitures as the players remain keen on reshaping their portfolios for best returns.

Industry Lags S&P 500 But Outperforms Sector

It appears that the broader economic recovery was not enough for enhancing investors’ confidence in the industry’s growth prospect. Significant cost pressure owing to higher commodity and shipping costs, adverse currency, higher business investments and aggressive pricing of private-label products amid intense competition, have been taking a toll on the industry’s near-term prospects.

The Zacks Soap and Cleaning Materials Industry within the broader Zacks Consumer Staples Sector has underperformed the S&P 500 over the past year but outperformed its own sector.

While the stocks in this industry have collectively lost 8.2% in a year, the Zacks S&P 500 Composite has rallied 13.6%. However, the Zacks Consumer Staples Sector’s decline of 11.2% reflects an outperformance by the industry.

One-Year Price Performance

However, it’s worth noting that there was a significant lack of synchronization in the performance of individual stocks within the group. While most soaps and cleaning materials stocks are suffering from the aforementioned cost pressure, some in the group have shown resilience driven by cost-saving and productivity initiatives.

Also, innovation and expansion of product portfolio is helping to cushion the soft margins. Nonetheless, industry concerns regarding higher costs are likely to weigh on margins, which should lower profits.

Soap and Cleaning Materials Stocks Trading Cheap

Thanks to the underperformance of the industry over the past year, the valuation looks really cheap now. One might get a good sense of the industry’s relative valuation by looking at its price-to-earnings ratio (P/E), which is the most appropriate multiple for valuing Consumer Staples stocks because their earnings are effective in gauging performance.

This ratio essentially measures a stock’s current market value relative to its earnings performance. Investors believe that the lower the P/E, the higher will be the value of the stock.

Generally, the price of a stock rallies on a rise in earnings. As earnings forecasts move higher, demand for the stock should drive its price. If the P/E of a stock is rising steadily, it means that investors are pinning their hopes on the company’s inherent strength.

The industry currently has a trailing 12-month P/E ratio of 17.6, which is below the high and median levels of 20 and 18, respectively, over the past year. Clearly, there is considerable upside potential.

The space also looks pretty cheap when compared with the market at large, as the trailing 12-month P/E ratio for the S&P 500 is 19.9 and the median level is 20.

Price-to-Earnings Ratio (TTM)

Underperformance May Continue Due to Bleak Earnings Outlook

Expectations of higher costs due to rise in commodity and transportation costs should continue to impact the profits of players across the industry. Moreover, higher business investments to replenish product portfolio are likely to burden the earnings graph. However, the cost-saving actions are intended to boost profitability, which may lead to stronger returns for shareholders.

But what really matters to investors is whether this group has the potential to perform better than the broader market in the quarters ahead. While the above ratio analysis shows that there is a solid value-oriented path ahead, one should not really consider the current price levels as good entry points unless there are convincing reasons to predict a rebound in the near term.

One reliable measure that can help investors understand the industry’s prospects for a solid price performance is the earnings outlook for its member companies. Empirical research shows that a company’s earnings outlook significantly influences the performance of its stock.

One could get a good sense of a company’s earnings outlook by comparing the consensus earnings expectation for the current financial year with last year’s reported number, but an effective measure could be the magnitude and direction of the recent change in earnings estimates.

While the consensus earnings estimate for the Zacks Soaps and Cleaning Materials industry of $3.52 per share implies a decent year-over-year improvement, the trend in earnings estimate revisions has not been favorable lately.
 

Price and Consensus: Zacks Soap and Cleaning Materials Industry

Looking at the aggregate estimate revisions, it appears that analysts are not hopeful of this group’s earnings potential.

The consensus EPS estimate for the current fiscal year has been revised 0.6% downward since Aug 31, 2018.
 

Current Fiscal Year EPS Estimate Revisions

Zacks Industry Rank Indicates Cloudy Prospects

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates continued underperformance in the near term.

The Zacks Soap and Cleaning Materials industry currently carries a Zacks Industry Rank #244, which places it at the bottom 5% of more than 250 Zacks industries. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Our proprietary Heat Map shows that the industry’s rank has stuck to a relatively wide range over the past eight weeks. In this period, the industry’s rank deteriorated to 244 before rising to 180 last week but is still in the bottom 50% of the Zacks-ranked industries.
 

Soap and Cleaning Materials: Earnings & Revenue Trends

The past earnings trend of the Soap and Cleaning Materials space reveals that the bottom line for the group has been volatile over the past few years. Looking closely, we note that earnings witnessed steep decline between 2014 and 2016, and has risen thereafter in 2017.
 

Soap and Cleaning Materials EPS

However, a look at the quarterly chart shows that earnings declined again in the first half of 2018.
 

Revenues for the Zacks Soap and Cleaning Materials industry have been declining over the past few years. A closer look reveals that revenues for the group have declined since year-end 2013 before stabilizing in 2017.
 

Soap and Cleaning Materials Revenues

Bottom Line

Though the cost-saving and productivity initiatives, along with investments in revamping businesses and portfolio, ensure long-term opportunity for the stocks in this group, the near-term picture looks grim owing to higher costs. In fact, we anticipate commodity and transportation costs to escalate in the near term, putting profound pressure on margins and the bottom line. Additionally, the increase in prices of goods may bring a slowdown in profits in the near term.

The industry might not be able to tide over the broader challenges in the near term. So it may not be a good idea to bet on this space right now.

On that note, we have highlighted two stocks that investors should pass up.

Colgate-Palmolive: The stock of this New York City-based global consumer products manufacturer has declined 10.3% in the past year. The Zacks Consensus Estimate for the current year has witnessed negative estimate revision of 10 cents in the past 90 days. It carries a Zacks Rank #4 (Sell).

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
 

Price and Consensus: CL

Unilever NV (UN Free Report) : This Netherlands-based consumer goods company offers personal care, home care, foods, and refreshment products. It carries a Zacks Rank #4 and has declined 9.1% in the past year. The Zacks Consensus Estimate for the company’s current fiscal EPS has moved down by 6 cents in the past seven days.
 

Price and Consensus: UN

Though the industry’s prospects seem bleak, investors may hold on to stocks that show potential for growth based on strategic initiatives. Here is one such stock:

Procter & Gamble: This Cincinnati, OH-based consumer goods company carries a Zacks Rank #3 (Hold) and has gained 3.3% in the past three months. The Zacks Consensus Estimate for the company’s current fiscal has been stable in the past 30 days.
 

Price and Consensus: PG

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