Weekly Brief: The Best Offense Really Is A Good Defensive Stock

Weekly Brief: The Best Offense Really Is A Good Defensive Stock

almost 3 years ago3 mins

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The world’s biggest consumer staples companies stunned analysts to report stronger-than-expected quarterly updates last week, proving that the best offense really is a great defensive stock.

🕰 Recap

  • Analysts raised their estimates for most US companies heading into earnings season, but they didn’t change them for US consumer staples companies
  • Cue Monday, when Coca-Cola followed rival PepsiCo in reporting better-than-expected first-quarter results
  • Then, on Wednesday, the world’s second-biggest beer brewer, Heineken, announced its own better-than-expected quarterly earnings
  • And on Thursday, Nestlé – the world’s biggest food company – rounded things off with first-quarter sales that smashed analyst predictions

✍️ Connecting The Dots

Consumer staples were in an odd position at the start of April: their stocks have been among the worst-performers so far this year, and analysts – whose estimates for most industries had risen along with their share prices – didn’t adjust their expectations for the sector’s earnings. That set the scene for their results to come in better than expected, and for their stocks to shoot higher.

But it’s still quite a big ask for staples, which tend to sell products that people buy no matter how the economy’s doing. In other words, their sales don’t ebb and flow much. This time around, though, they noticeably ticked upwards – and so did the companies’ stocks. Just look at Heineken: the world’s second-biggest brewer saw its beers back in vogue as more people ventured to restaurants again. Of course, there were outliers too: France’s Danone, for one, fell short of expectations, with the pandemic continuing to dent demand for its bottled water and baby food.

For forward-looking investors, the thing they’ll want to know about staples’ longer-term prospects is whether companies can raise product prices without risking sales. Those that have struggled to do just that have come under pressure from activist investors, who’ve pushed them to sell off underperforming segments and restructure their businesses. Not Coca-Cola, though: it managed to raise its product prices in North America – its biggest market – by 4% last quarter.

🥡 Takeaways

1. Pricing affects profit more than volume.

There’s a good reason investors are so focused on a company’s “pricing power” – that is, its ability to raise prices and boost profits without losing customers. Assume that it costs a company $2 to make a product that it sells for $5. If it sells 100 of them, it’ll earn $500 in sales and $300 in profit. If it sells 110 products (10% more), it’ll have sales of $550 and profit of $330 (10% higher). Now imagine it sells 100 at a 10% higher price ($5.50): its sales of $550 will be 10% higher, but its profit will be $350 – 17% higher than before.

2. But volume growth is still the bigger opportunity.

Still, between low inflation and the rise of private-label challenger brands, hiking prices is a tough prospect for consumer staples companies. The bigger growth opportunity, then, probably lies in selling more products – a.k.a. Increasing volume. Everyday Western drinks like cola and energy drinks, for instance, aren’t as popular in emerging markets, so upping their sales there is one way to go. Another is selling new products to tap into a new group of customers in existing markets – just like the biggest brewers are doing with alcohol-free beer.

🎯 Also On Our Radar

There’s a new sign that Intel is losing market share to rivals: the tech giant’s earnings update last week showed a drop in data center sales. That’s a cause for concern among the company’s investors because it’s Intel’s most profitable unit, meaning it’ll have a knock-on effect on the firm’s overall profit. Zooming out, it also goes to show how even tech stalwarts aren’t safe from new competition…

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