The Procter & Gamble Company (PG) Earnings Call Transcript & Summary

All right. Good morning, everyone. I'm Dara Mohsenian, Morgan Stanley's household products and beverage analyst. I'm thrilled to welcome you all here today back to Morgan Stanley's Global Consumer and Retail Conference. I'm really pleased to lead off our conference this year with Procter & Gamble. Thanks for being here, guys. So first, let me start with Morgan Stanley disclosures. Please see the Morgan Stanley research website at www.morganstanley.com for our research disclosures. And if you have any questions, you can reach out to your Morgan Stanley representative. And we're going to hear Procter's disclosures.

P&G would like to remind you that today's discussion will include a number of forward-looking statements. If you will refer to P&G's most recent 10-K, 10-Q and 8-K reports, you will see a discussion of factors that could cause the company's actual results to differ materially from these projections. Additionally, the company has posted on its Investor Relations website, www.pginvestor.com, a full reconciliation of non-GAAP and other financial measures.

Great. So with that, I'm very pleased to welcome Andre Schulten, Procter & Gamble's CFO, to this fireside chat as well as John Chevalier, the Senior VP of Investor Relations. Proctors had a strong track record of success the last few years on the back of a series of execution changes over the last decade, but certainly a lot of industry volatility and cost challenges here. So an interesting time to have you guys here. Again, thanks for being here. So I thought maybe first, we could start off talking about product superiority, Andre. It's obviously been something which has been very important in your success the last few years. You guys have talked about the fact that you moved up to 80% of the portfolio being superior recently. That's versus 30% if you go back and look 5 years ago, how do you continue to push the needle there? A, on that 80% continue to push superiority beyond where it is and maybe the other 20%? How do you drive incremental superiority there? So just how do you think about that as an organization given you've already had a lot of success continuing to sort of push the envelope there.

Yes. Thanks for having us, Dara. Good morning, everyone. Look, superiority, the way we define it is by default a dynamic concept. So we can't stand still because superiority will evolve. It will evolve with the consumer preferences changing. It will evolve with retailer requirements changing. So by default, the concept of what we call superiority isn't static, it is dynamic. So when we reach 80% of the priority across the 5 vectors that we've defined, which is product, package, communication, in-market execution and value for both consumers and retailers. Then we need to ask ourselves what is next? And that's really the question that we've been asking and you heard us talk about it at Investor Day. And so when you go through the list and I start with maybe product and packaging, the concept there needs to evolve in the sense that we believe instant gratification will become a significantly bigger component of how consumers perceive our products. So we call it the immediate wow or the first use wow. And the idea here is that the product has to be so good that when the consumer uses it for the first time, it's obvious to them that they've bought the best possible proposition in terms of efficacy and use experience that they could possibly get in the market. Examples for that are when we think about Olay moisturizer, for example, the way the texture feels and the perfume evolves, that needs to lead to an immediate wow effect when she uses it for the first time. When we think about fabric enhancers, for example, the first use needs to be overwhelmingly refreshing and fresh scent on the laundry when it comes out of the dryer. So those type of immediate wows are something we want to focus on. It's also relevant because that's the way that consumers share their experience with our product in social media, which becomes a bigger and bigger part of the social influence of marketing. The second component is habit formation. You hear us talk about wanting to drive market growth. Habit formation in our categories is a very important component of driving market growth. So many of our products still require education for the consumer on how to get the best efficacy out of the product. So hair conditioner, for example, educating consumers on the right dosing of hair conditioner is both a delight for the consumer because the experience will be so much better. But it is also a big, big consumption driver, educating consumers on the benefits of daily use of Head & Shoulders to their scalp health is another big increase in usage, but also in terms of efficacy. So habit formation is the second component where we want to involve and evolve. Innovating on the core, while innovating on more. And more means new jobs to be done or different jobs to be done. So when you think about dishwash detergent for example, our dishwash soap, we innovated on the core with the easy squeeze bottle, the ketchup bottle that you turn upside down, which increases the usage, delight for consumers from the first drop to the last drop. But we also innovated on a new job to be done, more and more consumers want to rinse their dishes on the go. So don't power wash where you just spray, you have a higher efficacy soap is the solution there. Both in combination, we're able to grow share more than 2 points in the very saturated U.S. dish market. So innovation on both the core business while serving new jobs to be done is the third dimension how we think about superiority evolving. And the last one is sustainability, environmental sustainability. We believe consumers will demand higher sustainability solutions, better sustainability solutions, but they won't be willing to compromise product performance as they look for sustainability. So, we believe that innovating across both sustainable solutions from a product packaging and end-use standpoint as well as sustainability integrated in the IMP into our innovation master plan is going to be a critical component. So we're going to reset superiority as we're not going to talk about 80% anymore, it's going to be lower, can't tell you what yet. But there's room to grow. Just quickly on media, you heard us talk about our digital media interventions. That's another element of superiority. We are able to better target consumers. We are able to qualify content in a day now via our digital tools and our digital databases. That allows us to drive better content, but it also allows us to schedule content more intentionally. So you as a consumer, don't have to see the same tight commercial 3 times in the same game, but we can target more accurately to avoid annoying consumers but also more effectively control our spend. So there's many dimensions where we still drive superiority. The key thing I want you to take away is we'll reset and it will require more investment to stay ahead because ultimately we want to grow markets and increase [indiscernible].

Great. That's helpful. And thinking about category growth here. Obviously, we've seen outsized pricing drive better-than-expected category growth globally. I understand it will be different by region. But in general, category growth has been coming in better than expected due to both the outsized pricing but also fairly limited demand elasticity. As you look out, certainly implied in your guidance is a return to category growth, and I understand that's prudent short term. But just thinking about the long term over the next couple of years in the HPC category in general, might there be some hope that we're more at the upper end of that category growth range with some of these pricing tailwinds. And as you think through the next couple of years, obviously, pricing will tail off. Hopefully, volumes recover, but that's a bit uncertain. So how do you think about also the volume recovery potentially over the next couple of years, both for the category as well as Procter & Gamble.

Yes, we've seen relatively healthier growth over the last few years, more in the range of 4%, 5%. And then in the most recent period, as you know, we expect the category to be growing more in the range of 3% to 4%, and that obviously is all price mix driven, right? The volume component is negative, somewhere in the range of minus 2% to minus 3%. And then you have a heavy price/mix component with all the inflation-based pricing that's going in. I think, over the coming years, we have to rebalance the growth algorithm because obviously a declining volume base, purely price-driven growth is not going to be sustainable. Our job within that, as P&G, we view as driving growth, driving growth, we are driving household penetration, driving usage location, driving new jobs to be done via the innovation and the superiority that I talked about. So that will be part of what we're focused on in the near future. I think over the next 12 to 18 months, we'll -- as pricing annualizes and kind of gets into the base I would expect that the price component will decrease over time and the volume component will strengthen. We have some effects that also are mechanical China, hopefully, reopening here sequentially over time, will add back volume. Russia-Ukraine conflict annualizing will become the base component. And then consumers having used up their pantry inventory over the next few months will also strengthen their need to go and repurchase again. So I think the balance will move back to a couple of points of volume growth, a couple of points of price/mix. And price/mix in our results has been a steady component of growth. I think over the last 17 years or 45, 46 quarters, you remind me which one it is, we've been able to add price mix of 1 to 2 points to the growth equation. So it always is there, but I think we need to, again, focus on driving both physical penetration, physical usage and then a healthy price mix component.

Okay. Great. And then coming off the recent Analyst Day, you really stressed an evolution in supply chain with Supply Chain 3.0. You talked a lot more about digitizing P&G. Just give us a general sense, right, those topics are a little more nebulous to outsiders and hard to grasp. You outlined some pretty solid productivity over the next few years. But help us understand in those areas, what sort of incremental in the next few years relative to what you've realized the last few years? Is it sort of a big step up as you think about it, either in terms of productivity, organizational effectiveness and how you think about the yield from those areas?

Yes. Look, we've delivered $2 billion, $10 billion productivity programs back to back. And the intention of Supply Chain 3.0, the organization effectiveness work we're doing is ultimately to remain at a level of productivity that is relatively consistent with that which allows us to drive the growth algorithm that we think we need to drive and enable that 50 to 70 basis points margin expansion year-over-year while continuing to invest in superiority in innovation and drive market growth. So the program, just to give you a few components here, right? From a supply chain standpoint, we've made a significant investment in digital capability in our supply chain over the last years. And what we've been talking about is now leveraging those investments to drive not only productivity, but in the best case, all of the programs that will drive productivity and cost effectiveness will also have an impact on superiority. So to give you a few examples, we talked at Investor Day about automation being a big opportunity, automation in our distribution centers and supply warehouses, which is a significant opportunity for cost reduction, but also a significant opportunity in terms of driving resilience of the supply chain. We have developed digital capability to reformulate our products to have more flexibility between different input materials and input suppliers without an impact on the quality of the product that is consumer noticeable. That gives us leverage that will drive: 1) Supply resiliency because we now can have more options available instead of single source materials, and it will also drive cost. We have invested in synchronizing the supply chain and all the way from the shelf demand signal to our Tier 2, Tier 3, Tier 4 suppliers. That allows us to take waste out of the system, reduce inventories and free up cash. And what all of those have in common is they deliver cost reduction. But when you think about it, they also deliver improvements in supply chain resilience, on-shelf availability, quality, ability to react to retailers' needs more quickly. So ideally, we combine that productivity program with an improvement in superiority. Media, the very same idea our digital capability we've developed in the media space by bringing media buying in-house and using our own consumer databases to better target consumers allows us to reduce spend, but it also allows us to target consumers when and if they are most receptive to these messages, avoid duplication and avoid annoying consumers with irrelevant content. Last example I'll give you, we talked about is we've developed capability to use images of shelf orchestration in stores in combination with point of sales data in those same stores to basically use -- build algorithms that on retailers' own shopper behavior illustrate what the most optimal shelf set is. So based on their own shoppers' behavior, we can illustrate what is the right shelf orchestration, what are the right SKUs across the entire category that should be on the shelf, where should they be? How many [indiscernible] should they have. And if you think about that, that again allows us to drive shelf productivity, ideally reduce the number of shelf keeping units, but it also improves shopability and the experience for our retail customers. So that's the idea there. But the idea from a pure cost standpoint is to stay in that same range that we've delivered historically. It's just giving you confidence that we've got the building blocks to get there.

Right. Okay. And can you help us benchmark where you think you are versus peers on digitization, supply chain? Obviously, you don't have complete insight, but I'm sure you do benchmarking work and these efforts generally sound pretty impressive. As it is sort of increasing the gap versus peers going forward? Do you think it's work that is more specific to P&G and you're increasing that gap? How do you think about it? Assuming there's a gap to begin with?

I don't think about it that way. For us, what's most relevant is the output. And so that's what we're focused on. If I want to point to the output in the counter customer survey, we've been #1 in terms of supply chain for, I think, 7 years in a row. So that's a pretty good indication of what we do seems to be meeting retailers' needs. That's no laurel to rest on. There are still tons of work to do. So what I will focus on is -- Is our on-shelf availability better than the balance of the industry? Is our response time better than the industry? Can we operate the entire supply chain including retailer warehouses at lower inventory levels to be more cash efficient. That's what we're focusing on there, right? It's really the output measures versus the input measures.

Okay. And then maybe getting back to pricing, we talked about the outsized pricing in the category earlier. It's been such an important driver of industry and Proctor results recently. Can you give us thoughts on consumer demand elasticity of that pricing? Has it changed at all? It seems to be ramping up in Europe, maybe less so in the U.S., but just thoughts around consumer demand elasticity and competitively any big concerns out there? How do you think about the price gaps today in Procter versus the categories you're in? And then also maybe just an update on any pushback from retailers if that has changed at all. So consumer competitive retailer.

The whole pricing.

Reaction to the pricing.

Yes. Look, I mean, starting with the consumer, we've been positively surprised and actually reaffirmed in our strategy of superiority with price elasticities and the consumer reaction we've seen. As we've taken pricing around the world, and we've priced slightly ahead of the market, not significantly. But as we've seen pricing come through, really, the concept of superiority came to life because the elasticity we've observed in the U.S., in Europe and in other parts of the world were significantly more favorable than we would have anticipated, which speaks to, I think, the strength of the portfolio, the fact that the superiority idea in and of itself is working, but also the work we've done on price points, price letters, different tiers, seems to be paying dividends. So that's the good news. The U.S. is holding up remarkably well. We're not seeing any shift in terms of those price elasticities. They still hold at a more favorable level. In Europe, as you point out, there are I think the pressure on the consumer and the general nervousness with winter coming, energy prices rising, there is nervousness in the consumer, and you can sense it across the retail environment. Our categories are no exception to that. So we see a return to elasticities that are more in line with what we would have expected in the first place. Nothing that is different from our assumptions because as we've said many times, we always plan on historic elasticities going forward. So whatever is actual we take, whatever we assume going forward is back to historical level. So still favorable, but a little bit more tension clearly in Europe as you would have expected. From a retail environment, look, every discussion with every retailer as it should be, is centered around, do we need to take that pricing, show me the logic for the pricing and show me why I should believe that that pricing will not harm my business and your business. And again, the idea of superiority, the favorable elasticities we've been able to show and the productivity that our brands and SKUs show on shelf are a good basis for those discussions. So we've not really encountered pushback. All discussions around pricing are tough as they should be, but they remain very constructive in all regions where we have to take them. So at this point in time, we've seen good acceptance of price increases and actually very good pass-through of price increases across the retail environment.

Dara, one thing I'd add is that as part of those conversations from the very beginning, we talked about the approach of trying to match up price increases with new innovation as much as we possibly could. And I think that has helped facilitate some of those conversations and reassure our retail partners that we're still doing things to grow categories, not just taking straight price increases whenever we could avoid doing that. I think that may have differentiated us a bit from the way some others have approached it.

Right. Okay. And it seems like generally, we've seen from a competitor perspective, there's been a bit more focus around category growth than sort of market share. Is that a fair characterization of the competitive environment as you think about things regionally, anything that stands out or are you pretty comfortable with where you stand from a price gap standpoint at this point? .

No, I think the competitive environment, everybody is seeing the same pressures, right, which is -- and the pressure is such that you can't -- you know there's no viable strategy to do anything but try to pass through the commodity cost pressures and inflation pressure. So I think that's helped the environment. If you look at the U.S. category average pricing in the range of 8%, we may be a point higher than that. If you look at Europe, category average pricing around 8.5%. We might be a point and 1.5 points higher. So generally, the market has moved in parallel, which makes sense given the overall cost pressures that everyone is trying to recover.

Okay. And there's been a lot of investor angst over potential consumer trade down. Obviously, given a) first, the pressures on the consumer at this point. We talked about Europe is even worse, but globally, to some extent. And obviously, a shift to branded products over the last few years during COVID. And with Proctor's price premiums, it has been even more pronounced focus for you guys from an investor standpoint. So just curious if you can give us an update there. It looks like private label share gains have happened but at pretty moderate levels. How do you think about that level of risk to Procter's portfolio and maybe some examples of how things have played out so far, right? There's some clear evidence here in the last few quarters already. So what are you actually sort of seeing? And in theory, how are you positioned versus past cycles or positioned versus private label in general?

Yes. I think the portfolio that we have structured across different price points, across different price tiers and across all channels, including dollar channel or hard discounters in Europe is really helping us. And that's coming through in the results. Private label shares -- maybe starting with the U.S., private label shares are up year-over-year moderately, call it 30, 40 basis points, nothing significant, but it's driven by more base period dynamics than sequential share growth. And I was looking yesterday at the cover channel data, for example, and private label share sequentially over the past 1, 3, 6, 12 months, private label shares in absolute are flat in all categories, but two. I think in wipes, they are up by 20 basis points and then panty liners they're up by 20 basis points. Other than that, private label shares in absolute are flat. They are up versus year ago because that's when private label had the biggest issues in terms of supplying the market. So U.S., I think, is holding very nicely. There's higher propensity on private label in Europe, obviously, and we see a little bit more growth on private label in some of the European markets. Part of that is driven by the fact that private label just needs to take more pricing relative to their base price because of their relative cost structure. So there's a mathematical effect versus the volume base. But in general, private label is a little bit higher, nothing I think that would compromise our ability to grow. So in general, our brand strength, our position in market is still strong in all markets, even when we see temporary private label growth. So I wouldn't be too worried. In terms of trade down from premium to mid-tier, we also don't see any broad based trade down. Again, there are effects in some categories. You've seen our laundry shares being under pressure from a value share component. This was partly supply driven. We've been talking about this. But if you look at the consumer behavior on shelf, the volume share is actually very stable, has been very stable and has been actually now growing more than one point in cover channels over the past 4 weeks on laundry and the volume share on Tide is up more than two points on fabric enhancers. So not nervous about trade down in the U.S. yet, watching private label closely in Europe, but nothing disruptive happening at this point.

Great. That's helpful. Maybe we could switch to the cost side. Obviously, some of the key commodities like resins, spot prices have come off quite a bit. And looking ahead, there's been some enthusiasm around that and what it could eventually mean to gross margins. What we've heard from you guys and others is don't get too excited. That's not necessarily a complete flow through to your P&L when you consider the third-party pricing, et cetera, and there are also some delays and lags in terms of timing. So just help us better understand that, is it that maybe some of the commodities that aren't tracked for cost -- maybe not commodities, are still holding up more, and that's why potentially this big spot pullback isn't flowing through as quickly as some might have hoped? Is it more that you can't bank on it, and there's a lot of volatility and eventually flow through over time? Just how do you think about that? Because there seems to be a little bit of disconnect between sort of the investment community expectations and what we're hearing from the company side. So help us think through that?

Yes. And the core fact here is we don't buy the commodities, right? We don't buy oil. We don't buy polypropylene. We don't buy polyethylene. We buy the raw pack materials that our suppliers are using those input costs. And when we look at our contracts, the way they are structured, they are still starting to roll over some of the inflationary pressures that our suppliers have experienced over the past 12 to 18 months, and they've experienced a lot of those commodity input cost factors and have partially passed it on, but some contracts are still rolling over. So that is still happening. There's maintenance cost because, again, we've overstretched our suppliers for an extended period of time in order to get cases out, maintenance has been delayed, maintenance cost is kicking in, labor inflation. So all of those elements are still passing through. So there is a delay and simply an input cost reduction doesn't immediately translate into P&L help on our side. There's also still within the broad mix of commodities that our suppliers are using, there is still up and down within the basket, right? Some of those commodities are still constrained. China is still down to a large degree. So until China fully reopens, there will be pressure on some commodities that are critical in our business. So that's another component that we see. So at this point in time, I think the trend we all want to see, the rays of sunshine, not yet.

Okay. All right. On the horizon, but not yet. Okay. That's helpful. And then just as you think about recovery of some of the gross margin compression in the last few years, I know you look more at gross profit dollars than gross margin percentage per se. But how do you think about the recovery path looking out over the next few years? Is there visibility that you can recover a decent chunk of that? And how do you think about that? And I'm sure that ties into the product superiority and pricing we talked about earlier, but just how do you think about that conceptually?

Yes. As you say, I think our primary focus right now is to recover the gross margin dollars, right? Recover the cost impact and ensure that happens in the most constructive way by protecting top line growth and market growth and our share position in the market. So that will continue to be the priority, I would say, for this fiscal year and probably into next fiscal year. In the long run, we will return to our growth algorithm, right, mid-single digits on top line, mid-to-high singles or bottom line, which requires 50 to 70 basis points of margin expansion. That will require the productivity effort that I was describing because the only way for us to deliver that margin expansion and continue to invest in that new superiority is productivity. But our firm intent is to go back to 50 to 70 basis points margin expansion on a going basis. I won't tell you when exactly that happens, but we will get back.

There would -- Andre said everything except the one word, balance, right? And this has been the core tenet in how we've been trying to go to market, how to operate the business. I don't think that changes. It's just a matter of if we get an environment that does have a more level cost structure, ideally, if the rays of sunshine do come through and they roll over some, maybe that expansion can go a little faster, but it's still going to be about balance.

Right. Okay. Maybe we can talk about on the margin side also, the marketing line and how you think about that. If we do get a cost environment that's better, that starts to flow through, FX potentially a little better than you last guided, is it sort of the propensity generally to reinvest in the marketing line, which has worked so well over the last few years. How do you sort of think about that, both short term, but also longer term as you look out over the next couple of years? The reality is there's been less ability to do that in the last year with some of the cost pressures and unfavorable FX. So sort of curious from here as you look going forward, where things stand on that front?

Yes. Look, our commitment in the communication vector of superiority and that translates into media investment is to not compromise the model, right? So first of all, what we're doing now is to ensure that on every brand and every category country combination, we try to achieve sufficient levels of frequency, sufficient levels of reach with the right quality content, and that's really the discussion that is permeating the entire company right now to ensure that we don't give on that vector. And we believe we can do that. What allows us to do that and still deliver the results is the productivity work and that capability rollout that we've been talking about in terms of targeting capability, content creation, qualification that allows us to deliver that reach and frequency at better cost, and bringing media buying in-house is a significant leverage to that line of the P&L. So that's the starting point. I think it will be interesting to see how far we can push this there. Because I see the capability that we have built and we are building only at its infancy. We are learning every day on how to further optimize our media spend, how to further optimize our content and how to do this quicker and read in-market results more quickly, which I think will give us more leverage to drive productivity, but it will also increase the ROI of every dollar that we spend. So where that exactly comes out? I would expect more investment will make sense given the higher ROI. But the principle is we will be sufficient, and I would expect us to test what the boundaries are in certain category country combinations, especially those where you have the highest opportunity to build market. So when you think about fabric enhancers or when you think about electric toothbrushes, where household penetration is still low, how far can you push the model? How quickly can you drive household penetration, if you really go after it with heavy media spend? Those would be the instances where we would be interested in investing more.

Right. Okay. Maybe we can end on market share. Obviously, the organizations had a lot of success focusing on driving category growth and market share has sort of been a byproduct of that, a lot of hard work that goes into it. But a lot of success in the last few years -- the last couple of quarters, we've seen the market share gains dissipate, certainly in the U.S., globally also. So just how do you think through that? Is it more, look some of the supply chain advantages a year ago aren't as pronounced this year, a little bit of trade down, not that big a factor, but certainly a negative factor, tough comps? Or as you look at sort of the nitty gritty and go through all the product categories, are there bigger concerns on that front? Just your general sort of feeling around share and how the organization stands today relative to the deceleration we've seen in the last couple of quarters on a year-over-year basis.

I think what we said at the beginning of this more volatile cycle is this won't be a straight line. It won't be a straight line from an earnings perspective, and it won't be a straight line from a share perspective. And I think that's what we're seeing there. We're seeing bumps that we would have expected with the level of supply chain volatility in the base, the level of supply chain volatility still today, the level of pricing and different sequence of price increases being taken by different players in the market, consumers being in different stages of the inflationary cycle. So what we're seeing, I think, are the bumps, the cyclical changes that don't mean that the line trajectory in and of itself will change. And I don't think it does. And we've been talking about Fabric Care share, for example, right? And we said it will be down for a couple of months, even a couple of quarters because of the base period, because of the supply chain issues and because of the pricing sequence. And we see that playing out. Now volume shares are back up, value share will follow. Family Care, the U.S. is the same thing. We knew the share would be down from July through December because of the base period where we had record shares because other players were out of supply. We knew that would play out, but it will be done by December, January, February. So I think it's the nonlinear trajectory that we were describing, nothing structural. Europe, we're going to keep a very close eye on sufficiency of investment to ensure that the consumer understands the benefit of our brands. I think that's where probably the highest level of attention is required at this point in time. But again, it's nothing fundamentally broken. It's just an opportunity to double down and be really targeted in terms of investment.

Great. Well, that's really helpful. Appreciate you guys being here. Thanks very much [indiscernible] there.

Thank you.