We recently downgraded our recommendation on Unilever N V (UN) to Underperform from Neutral due to soft consumer spending pattern and continued slowdown in the spreads business, which shows no signs of recovery in the near-term.
Why the Downgrade?
Unilever’s earnings in the second quarter of 2013 increased 7% owing to organic sales growth and operating margin improvement. However, weak currencies adversely affected growth in the emerging markets. Developed markets have also remained sluggish due to macroeconomic headwinds.
Consumer spending in the emerging and developed markets has slowed down due to high unemployment and low payroll tax relief. In Europe, consumer sentiment continues to be affected by the debt crisis with no sign of improvement. Moreover, Unilever’s performance in Brazil, Russia, India and China has also slowed down of late. Several currencies have weakened at an accelerated pace. With a strong presence in emerging markets, Unilever also faces increased competition from both multinationals and strong local players as both seek to capitalize on the growth opportunities.
Unfavorable currencies have also led to a rise in commodity costs in the reported quarter. Unilever sources a wide variety of raw and packaging materials from international markets, which in turn affects prices in local markets. Continuous rise in commodity prices and weak consumer demand might hinder Unilever’s volume growth and margins, going ahead.
A slowdown in its spreads business since the last few quarters is also hurting profitability. The company is constantly working on its price and quality and trying to retain the natural flavors in its spreads. It has also launched new variants of spreads in many markets, which are doing well. However, these initiatives have not helped the spreads business as expected as it is still yielding negative returns.
Changing consumer preferences also keep the company on its toes. Given the challenges ahead for Unilever, we remain bearish on the stock. Unilever holds a Zacks Rank #5 (Strong Sell).
Other Stocks to Consider
However, not all stocks in the consumer staples sector are performing as poorly as Unilever. Stocks worth considering in the sector include Pilgrims Pride Corporation (PPC), Dole Food Co. Inc. (DOLE) and Tyson Foods Inc. (TSN). While Pilgrims Pride has a Zacks Rank #1 (Strong Buy), Tyson Foods and Dole Foods hold a Zacks Rank #2 (Buy).
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