Colgate-Palmolive Company (CL) Earnings Call Transcript & Summary

Good morning, everyone. I'm Dara Mohsenian, Morgan Stanley's household products and beverage analyst. I'm very pleased to welcome Colgate to Morgan Stanley's Global Consumer and Retail Conference. Before we get started, for a quick disclosure, please see Morgan Stanley's research website at www.morganstanley.com/researchdisclosures. We have important disclosures there, and you can reach out to your Morgan Stanley representative if you have any questions. So with that, we're pleased to have Colgate here. They've implemented a number of strategic initiatives over the last few years here, which are really starting to bear fruit in terms of organic sales growth recovery recently. Joining us today from the company, we have Panos Tsourapas, Colgate's Group President for Latin America, Asia Pacific and Africa and Eurasia; Stan Sutula, Colgate's CFO; and John Faucher, who's the Chief of Investor Relations and Senior VP of M&A. So, thanks very much for joining us today, guys.

Nice to be here.

And we'll just jump right into it. So Panos, maybe we can start with a broad perspective. I talked about the strategic changes that have implemented the last few years, particularly when Noel took charge as CEO under his leadership. Can you review those changes? Which have been the most important in driving an improvement in the business? How successful have some of those individual changes been? What are the key areas you're still focused on going forward in terms of driving forward progress from here?

Yes. First of all, thank you for having us. I think our sentiment is that our strategies work. Everything that we put in place a few years ago seems to deliver the results we anticipated. If we see our top line, it is in the range or above the range consistently the last years. And this is an indication that things are going the right way. Our innovation is working. Our brands are getting stronger. When we see the brand equity and brand strength metrics that we have around the world, they are improving. And we are growing in the fast-growing channels like e-comm labs here in the U.S. or other channels around the world. And we are making very good progress around our efforts on digital transformation across the organization. So the strategy that we put together around core premiumization, premium adjacencies, expanding in new channels and businesses, building new capabilities while we are driving productivity is working well. Obviously, nothing is perfect, and we are in fast-moving consumer goods business, so nothing is standing. So -- but we need to improve several things. Performance in a couple of regions needs to be improved or we need to consolidate progress like North America or China, for instance. We need to improve our market shares in some product channels and to continue our efforts around transformation because the world is moving continuously. So -- but overall, I think we feel good with the progress we are making.

Great. That's helpful. And as you think about the business going forward from here, you mentioned historically, you've been delivering on that top line growth here over the last couple of years. Are you comfortable you're now sustainably back to 3% to 5% long-term organic sales growth from here after these strategy changes? And what are the biggest risk factors as you think about long-term guidance going forward from a top line perspective?

Yes. I would say if we look back, and obviously, assuming that everything goes well this quarter, we're going to have 12 quarters or 3 years being in the range of 3% to 5%, which is quite a bit of a period that indicates that we are on the right track. And I think most importantly, what you see in most of the cases our growth is broad-based, across divisions, across categories, both in volume and pricing, which is an indicator that what we do is quite consistent and healthy. Now moving forward, by definition, as COVID indicated, we cannot predict the future. But I would say that we need definitely to improve our performance in North America. We need to consolidate the big progress we are doing in some other markets like China. As long as we do that and there's no major external disruption related to COVID or other external events that we cannot assess or predict, we should be within that range moving forward.

Dara, if I can just add something to that, which is, if you take a look at our performance, last year, obviously, we benefited from COVID-related trends in Personal Care and Home Care. This year, as we lap them, we've actually been down a little bit in Personal Care. We're still growing in Home Care, tracking at a double-digit rate on a 2-year stack. But the most important thing is that our 2 most important categories: Pet Nutrition growing double digits, Oral Care growing mid- to high single-digit organic sales on a year-to-date basis. The fact that we've been able to grow our most important categories that robustly this year, I think, augurs very well for the fact that we're getting to the point where our growth is more sustainable.

Great. And then, Panos, given your leadership in a lot of the emerging markets, can you give us a little bit of a lay of the land here? Obviously, there's been some macroeconomic volatility and just volatility in general, whether it's social or case counts from COVID, et cetera. So just some perspective on category growth as we look around the key emerging markets around the world as well as Colgate's positioning and your market share performance in a lot of those emerging markets, again, in light of all this volatility.

Yes. I would say the emerging markets are inherently volatile. And it's no surprise what happened in the last year. I think moving forward, if we see the world, I think we should expect a bit more volatility moving forward next year around Latin America. We all read Brazil will have elections and probably would be the most toxic and the most controversial of the last years having to very opposite personalities competing, and this might impact demand. Colombia is getting more elections, again very controversial. A bit of political instability and weaken government and low popularity of the President in Mexico. So I think Latin America is getting into a period that sometime the political uncertainty would impact the demand because the way people think, they wait where things would settle. So may take as they are moving forward. When I look to the other big region, Asia. I think Asia this year was impacted significantly by COVID, lack of tourism, major shutdowns and many lockdowns in countries that they tried to apply the 0 COVID policy. And this impacted the demand. So logically, if the COVID situation normalizes, this could be addressed. So I think from a macro perspective, we should see a bit more volatility in Latin America, a bit more positive trends in Asia. Regarding the -- and I think Africa and Middle Eastern countries, I would say, Africa should be more or less stable. There's nothing significant happening there. In the Middle Eastern countries, I think, should be benefiting by the economic reopening and the oil prices that they are going up, so if I see the frame around the world. Now if you see our category growth, I would say that Personal Care categories and Home Care categories did benefit from COVID, but they are still above 2019. So I think this will continue and that the Oral Care growth rates should continue to be in that shelf. So we should expect to have a fairly balanced picture there. Now as regards our market shares and our market positions, I think we feel, considering the specificity and the volatility of the environment, good about it. Again, if I travel around the world mentally starting from East. If you see our Asia Pacific business, all our market shares across all our categories are positive or stable as we speak on a year-to-date basis. So our trends are good. We do very well in China, particularly in e-commerce, where we are the fastest-growing brand in toothpaste and toothbrushes. Our innovation is working. Our premiumization is working. Our digital transformation efforts are working. So we feel very good about it. And we have very good results in the other countries like Thailand, India, Philippines, which are the big businesses in Asia. If I go to the other big businesses in Latin America, our market shares are flattish. And I think this is by design and by choice, we are driving pricing in Latin America, and we are driving a premiumization strategy. So our pricing is up. The market share of our premium part of the business is growing. So we are transforming the business, we believe, strategically in a much more healthy way. This means that we are dropping a bit of volume at the low end of the market or at promotional price points that we don't want to compete. But moving forward, we believe it's a more healthy approach. I would prefer in Latin America to have 75 share entrants, forming the business towards premium rather than having 76 competing in very low price points, particularly in this environment.

Okay. And short term, what have you seen from a competitive standpoint in emerging markets? Obviously, there's a period of outsized commodity pressure here. Have you seen competitors generally take pricing? Have you guys led on pricing? How has the competitive environment changed in this higher commodity environment?

Yes. In general, in most of the cases, we lead in price, particularly in Latin America, where we are market leader, but I would say across the world. In this commodity environment, we have no choice than taking pricing and deploying effectively the RGM toolkit and going beyond list price increases, looking at our mix, looking at our promo pricing, looking at our sizing, our channel strategy and all the toolkit that we have developed, and we deploy very, very efficiently across the world. Now on the vision, I think, by and large, is following depending on the region and the category. In some instances, sooner; in some instances, later. And what we find is that I would say, multinational companies like us, in most of the cases, tend to follow faster. The local companies for many reasons, most of them are private, so they have different benchmarks that they tend to follow at a lower -- at a slower pace. But I would say in most of the cases, the market -- the competition is following the pricing.

Okay. And if you think about emerging markets longer term, post-COVID, do you think anything has changed in terms of category growth potential, either greater usage over time or just greater per capita consumption per consumer, trade-up potential, et cetera? I guess it sounded like things haven't changed that much from your perspective post-COVID. Obviously, there may be a period where the base is -- there's variance year-over-year where we get to a normalized base post-COVID, but I really mean a long-term growth opportunity off whatever would be a normalized type of baseline.

Yes. I would say that, personally, I am quite optimistic and bullish about the prospects of emerging markets in general in macro view. I think this year has been hard. Next year, it's going to be a year of volatility. But in the long term, if you take a 3- to 5-year horizon, after a period of slowdown potentially, logically, we should expect another economic cycle that there will be more growth and prosperity. And this could benefit our market sizes, and this would benefit us because we have very strong positions in emerging markets. When I see our categories, I think Personal Care and Home Care would land at the higher level than 2019, and we see that. And I think Oral Care continues to have a lot of potential, both in terms of per capita consumption and in terms of premiumization. It's very interesting that, again, if we go mentally around the world, and we see even countries that have been significantly affected economically by COVID, when you see the premium part of the business like pharmacy exclusive bundles we have, if I look at Brazil, if I look at Turkey, if I look at South Africa, if I look at Russia, we are growing our market share. So there is -- the fundamentals are there, both in terms of premiumization opportunity and per capita consumption, which we believe position us very well for the future to capitalize on these trends.

Great. That's helpful. And then maybe, Stan or John, you could jump in here on the Hill's business. It's been a remarkable success story in the last few years here. Year-to-date, I think 2-year average organic sales growth has been 14%. Even post tough comps, you're posting nice growth. Could you touch on what's driven the strong growth in that business, how sustainable that is as you look going forward on a post-COVID basis as we sort of look at a more normalized basis from here?

So John, do you want to take that one or you want me to jump in?

I'll go ahead and take it, Stan, and then if you have anything else to add. So I think as you look at it, Dara, we've gotten a lot of questions about whether pet adoptions or other factors have impacted in Hill's. And the real issue is Hill's has been delivering very solid growth in the second half of 2018. And so this is a continuation of a trend, and it's being driven by a number of factors, most of which I think are endemic in terms of how we've been driving the Hill's business ourselves and the choices we've made. Panos talked about core innovation, right? We did the Science Diet relaunch. Faster-growth segments, we've got great new products surrounding microbiome on both Science Diet as well as Prescription Diet, and then obviously, faster-growth channels in markets. The Hill's business does incredibly well in e-comm. I consider e-comm to be the new mass in premium pet food. And then also, we've really upped our game in terms of not entering new markets, but focusing on underdeveloped markets for us like Europe, Latin America, et cetera. We -- you and I have talked a lot there about market share for Hill's, and its sort of mid-single-digit-ish in the U.S. And that's Hill's' best market. So as we broaden the investment potential over the last couple of years and really put advertising dollars back into the business, we've broadened the playing field, which has allowed us to lap these comparisons. So I think we feel very good about the underlying trends of the category in terms of premiumization, as Panos talked about, and you can see that in the scanner data as well as in the channel shifts. And then our ability to take share within the category, I think, still remains fairly robust. Stan, anything you would add from that standpoint?

I think the basis in science is what resonates in the market and continues to be a proven formula that works, and Hill's team has executed exceptionally well.

Great. And are there learnings from Hill's you can take to other parts of the organization? We've been around long enough that I can remember 5 to 10 years ago, the biggest question was when you were going to divest the business, right? So it's a pretty remarkable transformation in terms of success. Obviously, a lot of that ties to the drivers you just talked about. But I'm curious, given the level of success in the magnitude, if there are learnings that can be applied elsewhere in the organization.

I mean, look, I think the agility of a 3% to 4% market share business relative to a 40% market share business, right, you're going to be more agile. You're going to find some of these trends more quickly. I think, again, the Science Diet rollout for the core innovation, this happened before we did that on the rest of the Colgate. So I think that core adjacencies, markets and channel strategy, it's the same strategy across the entire business, but it did come out first at Hill's. I think in particular, there's been a couple of things that we've been able to take at Hill's and really build across the rest of the business. E-commerce first on our packaging. If you look at the Science Diet relaunch, it was the first time we really started with e-commerce first in terms of package redesign. And I think if you take a look at the Colgate packaging as well as Personal Care and Home Care, you see much more focus on e-commerce from a packaging standpoint. And then really building up the knowledge in e-commerce, the knowledge in digital marketing, the knowledge in data and analytics, we've been able to take that overdevelopment on Hill's and really use that as a catalyst, along with some key external hires we've made, to drive some of the e-commerce and digital market share performance that Panos referenced, where we are seeing fee-based growth, market share growth in e-commerce pretty much across all of our key markets.

And if I may add beyond the digital success because Hill's has been in the forefront and has been a model for the rest of the organization around analytics, first-party data, how we interact with our consumers in the digital world. Hill's also is in the forefront of our professional recommendation-driven demand and model, which is very much applicable in rest of the businesses. We drive a recommendation model in Oral Care for years, and it's working very well. So they are working very well together in some of our skin care businesses as well. So there is a lot of knowledge transfer and practices that they are traveling across the world and in different categories, improving our performance.

Right. Great. And then, Stan, maybe we can switch to the margin side. Obviously, pronounced cost pressures from an industry perspective here, not just commodities but transportation, too, and supply chain. Maybe you could talk a little bit about how you manage pricing strategically in an environment where the magnitude of cost pressures is so significant. So are we getting to the point now that it's been a few quarters of outsized cost pressure, where pricing on a dollar basis should start to offset costs when you look at year-over-year pressure going forward? Is it more you're approaching it more from a multiyear standpoint, where you look to recover that dollar cost pressure through pricing just given the magnitude is so severe? How do you view that conceptually?

It's -- we're not going to get into '22 guidance here. But if we step back at the macro trends, I think it's very clear we haven't seen this level of commodity and logistics inflation in a very long time. And the raw materials, we think are going to remain elevated into 2022. And that's going to be a bit of a headwind. Now we're taking pricing, which I think is the ultimate hedge. We're taking pricing pretty much every market around the world and across categories as you heard, as Panos described. But that pricing is going to lag that cost inflation, and that's just the way the timing is going to work here. But we believe over time that those price actions combined with productivity will catch up on the cost increases. Now we don't have a magic ball here to look into the future around commodities and logistics, but we see those as a headwind, particularly in our first half and first quarter as we lap those compares. And depending on what happens on the cost inflation here, the second half, I think, is still a bit of an open switch. So we look at it all the time. We have a very robust supply chain and procurement organization to look at that. Now we feed that with all of the commercial teams to take those pricing actions as informed actions. So over time, we believe that pricing and productivity will catch up and help restore the margin that we've lost.

Okay. And then as you look at pricing so far, can you talk about, a, retailer receptivity; b, consumer demand elasticity relative to past cycles; and c, what you're seeing from a competitive standpoint? Panos touched on it in emerging markets, but I'd love to hear about the U.S. and Western Europe, which has been more difficult from a pricing standpoint, so what you're seeing in those regions also.

Look, I think it's a little early to comment on elasticity and how that might affect. We're clearly going to see some impact. I don't know, though, necessarily follow historical trends given what's happening in the macro environment. If I kind of split it, and Panos touched a bit on this, we've been aggressive on pricing. We'll see how all the competitors line up and how are people going to follow and will that be in all the categories. But what we are seeing is in emerging markets, wages are rising. And so in terms of the buying power, we think that, that will help preserve some of the volume as consumers get that money in their pocket. And developed markets has been much more difficult to take pricing, right? It's a more challenging environment. We've done that. And that's where I think we're going to look at the size of the price increase is more than usual. But consumers generally appear to be in a pretty good place. We see that in a worldwide economy numbers. So a little early on elasticity. We monitor that closely to make the adjustments as necessary, but we're comfortable with the position we're in.

Okay. And look, if costs continue to move up from here, obviously, there's a lot of volatility and know it is a crystal ball, but how do you sort of manage the P&L relative to that risk? What are some of the levers you can pull? And also, the second part of the question is, you curtailed ad spend a little bit, or at least plan to, in Q4 towards the end of this year given the outsized commodity pressure, that makes sense, given the magnitude of pressure. Are you comfortable that with the increases you've seen in the last couple of years that you're in a good market share position? Does that sort of create any risk? Or on the other hand, maybe you're at elevated levels with the increase the last couple of years and maybe there's an ability to continue to leverage that line item going forward. So just thoughts on how you manage risk. If commodities continue to move up, what levers you can pull besides pricing, which we just discussed? And then, b, specifically on ad spend, is a recent pullback? Does that create any risk? Or might that be an item of flexibility going forward as you think about that line item?

So yes, I take those in the components. First, on the commodities and logistics increases. We know that first half is going to be the more difficult compare. If commodities logistics stay in the ballpark that they're at, that should get a little bit better in the second half. But as we look at that, we don't do a lot of hedging. There's some hedging in a few minor commodities. We think price is the ultimate hedge and that it is the more proactive approach to it. Hedging -- commodity hedging, if you will, simply pushes the problem out. It doesn't solve it. We think price and productivity are the much better way to approach this. Now if we take this, we look at those commodities in a couple of different buckets. Things like resins are going to move largely with oil. So there's a strong correlation there. And so as we see some stabilization, we've seen oil come down recently, we think that will help. But there are some areas like tallows and fats and oils that are being consumed in biodiesel. We think that one is more structural in nature. So what do we do about that? We look at innovation, alternative formulas and then look at -- that's another reason why we do the pricing. So we think productivity -- and one of the things I'm very impressed about here at Colgate-Palmolive, the team doesn't approach it with one size fits all. It's not just price. We have what we call Funding the Growth, which is a very disciplined holistic approach to driving productivity. And that's when you combine -- when you talk about the different levers, that attacks all of the spend that we have in our function combined with pricing, I think, is a great tool to approach how to drive that margin improvement. Now in advertising, we view advertising as an investment, and it has increased over the last few years. And while advertising -- we talked about the right balance approach, and we still think it's about balance. We focus our advertising on innovation, new channels, specific markets. So even though we look at a total portfolio, it's very, very focused. So we'll watch that going forward and make the trade-offs. But what we'll see, as we've talked about in our previous discussions, on an absolute dollar basis, advertising is up. We think that's an investment that's driven our top line performance here with the gross margin pressures. We'll find that right balance between organic sales growth and bottom line. As we talked about, there'll be a balance in time. That said, the investments we've made, in particular the last couple of years, have really helped us get kind of into this close to 12% range. And we think that heavy lift, if you will, that step, is something that we've made a lot of progress on. But we think there are great opportunities here. We talked a few minutes ago, John highlighted Hill's. When you look at Hill's, I mean, the performance we've had, there was a fundamental transformation of that business. And we do professional recommendations, science-based, but another key component to drive penetration was advertising. And we have a holistic effort behind the scenes. And not just the absolute dollars because we think while that's important, how we spend those dollars is equally as important. So we have a whole work efforts going around, are we spending those and getting best possible yield working with our partners to maximize the impact of that advertising? So to wrap that one, we view it as an investment, but we are also pragmatic. We know we have to balance the P&L as we look to return to our shareholders. Incredibly volatile time right now. We think we're striking the right balance. We'll continue to do so as we go forward.

And if I may complement what Stan just said, we should not ignore the element of productivity and efficiency in advertising. It's not only a quantitative measure. We have a number of initiatives and a number of tools that are available today that allow us to target better. We deploy, for instance, the majority of our spending is around programmatic buying that allow us to target much better our audiences. We deploy systematically, in some instances, even on a monthly basis, targeting mix modeling analysis so we optimize our spend. So beyond the quantitive [indiscernible] to sales, how we target and how we make more out of the dollars we spent is equally, or I would give even argue, even more important going forward.

Right. Okay. Great. That's helpful. And then maybe we could spend some time on North America. Profits declined about 20% year-to-date. That's a pretty sizable number for a business of that size. And also the rest of the organization has done very well during that timeframe. So we're seeing strong profit growth in the rest of the organization. And even if you look at the past couple of years prior to this year, profits were down on a 2-year basis. So what's been the issue in North America that sort of held you guys back from a market share perspective, from a profitability perspective? And in this -- is this year abnormally depressed by some of the supply chain issues and sort of provide you an easier base to grow off of going forward? And really, how do you sort of turn this region around, like we've seen with improved performance in a lot of the other regions in -- at your company.

That's a question maybe I'll start and -- or John, do you want to start and I can chime in?

Why don't I start? I'll talk a little bit about the business and then, Stan, you talk about the margin.

Sure.

So, Dara, I think if you go back a couple of years ago, as we looked to reestablish growth in North America, we made a real concerted effort surrounding the faster-growth channel, right? So we said, hey, we know we're under-indexing in e-commerce. We know we're under-indexing in club. Nonmeasured channels are 20% of the category but 50% of the growth. So we made a significant effort there. We've seen great market share growth. Our e-commerce market share performance this year is up a lot as is our club market share. So we feel good about reaccelerating. What we've had -- and then we had great growth last year driven by a combination of solid growth, I would say, on Oral Care, but then obviously, very strong growth in the COVID beneficiary categories of liquid hand soap and some of our household cleaners business. This year, what we saw is that nonmeasured channel growth continue, again, really good market share performance. We lapped liquid hand soap. And as I mentioned on the third quarter call, liquid hand soap alone was a 400 basis point drag in North America organic sales growth in the third quarter. But very solid Oral Care performance, right? So getting the balance right across channels and across the categories is really sort of the key thing so people can understand the true health of the North American business. We did see some logistics problems in the beginning of the year. We've gotten over those. You've started to see our market share performance, particularly in toothpaste in tracked channels move up over the past couple of months. So I think you'll see that continue. Combined with our nontrack market share performance, I think we feel pretty good about how we're doing in toothpaste right now. And so I think that's improving. And as we lap some of these COVID bumps in liquid hand soap, cleaners, et cetera, I think you'll see the underlying trends in North America improve, and that should help get us back to what I think we would agree, and I'll let Stan elaborate on this, is a business that should be growing top line and bottom line for us.

I think it's well said. And look at what you said, John, it's not a low-30s margin business, but it's better than what we see today. And we're confident that the actions we're taking -- and I'll come back to the pricing discussion we had. This is a difficult market and very, very competitive, but we are taking the actions that will position us to perform better over time. So we're confident in North America business, and we believe we'll see that improve through time.

Okay. Great. And then we've got a minute left, so why don't we end maybe on capital allocation. And John, I know you recently got an enhanced role in M&A there, so congrats on that. But maybe just give us a sense of how big a focus acquisitions are in your broader capital allocation framework at this point? We've seen a couple of deals this week in the group. And obviously, post-COVID, there is a refocus potentially on M&A with balance sheets back in good shape and sort of a lack of activity for a period of time. So historically, it hasn't been a big focus for Colgate. Has anything changed in terms of your capital allocation priorities? And run through some of the strategic and financial framework for M&A.

Sure. So again, I'll start off and then maybe throw it over to Stan for his thoughts. I don't think anything's really changed from that standpoint. I mean the price of growth remains very high in terms of looking at M&A, and we're going to be rational in terms of doing that. At the end of the day, the best investment for growth is to invest back in your own business. From an ROIC standpoint, that's where we see the biggest opportunities. And we've done that. You can see our CapEx actually trending up a little bit here. So I would say we are going to be opportunistic, looking at small growth opportunities that really flow from our strategy, right? It's not about saying, "Well, this is growing. We want that asset." It's -- okay, how can we take a faster growth asset? What do we bring to the table? How does that make us better? If you think about a brand like Hello, which has great innovation, has the ability to expand across multiple categories, the ability to maybe go international, which we're doing right now, was very on-trend in terms of charcoal and sort of naturals. Like those are the types of opportunities that we can really seize on to and drive incremental value. Stan, anything you would add from a capital allocation standpoint?

Yes. I guess I'd just pull the thread a little bit more and bring that to our total capital allocation strategy. So as John said, first and foremost, it's investing in our business. We think that has some of the best returns out there. And as we see that, we'll always look at that. We look at M&A and align with our long-term strategy, and that helps us keep a north star on what's important to us. But obviously, we go to the rest of the capital allocation strategy, which is return to shareholders. So look, we have a great track record on the dividend. We would like to increase that over time. Obviously, that's a Board decision. So we would go through it with them, but we think we have a competitive dividend and would like to continue that subject to the Board approval. As well as share buyback, we think that's a component of return to shareholders that makes sense for Colgate-Palmolive. And you've seen us balance that, in particular through the pandemic, as we reduced share buyback to make sure we had the right level of liquidity and the ability to invest in CapEx. And you saw us return back to more historical share buyback levels this year. So from a capital allocation strategy, I think we're very clear on our intent. And I think we've demonstrated the ability to make the changes as we see those opportunities in the business.

Great. Well, that was all very helpful, gentlemen. We're out of time. Very much appreciate you being here, and we'll end things there.

Thank you. Thanks for having us.

Thanks again.

Thanks, Dara.

Thanks, Dara.