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Unilever Stock: Limited Upside Potential Despite High Profitability
Stock Analysis & Ideas

Unilever Stock: Limited Upside Potential Despite High Profitability

Unilever (GB: ULVR) is a consumer staples company that operates through the Beauty & Personal Care, Foods & Refreshment, and Home Care segments.

While the company and its business model provide a confidence-boosting level of operating leverage, and its acquisitions have been bringing value to its overall targets, we remain neutral on the stock. This is due to its low-rate of material growth and analysts’ projected limited upside on the stock.

Measuring Efficiency

Unilever needs to hold on to a lot of inventory in order to keep the business running. Therefore, the speed at which a company can move inventory and convert it into cash is a strong indicator in predicting its success.

To measure its efficiency, we will use the cash conversion cycle, which shows how many days it takes to convert inventory into cash. It is calculated as follows:

CCC = Days Inventory Outstanding + Days Sales Outstanding – Days Payables Outstanding

Let’s begin by calculating the individual components:

  • DIO = Average Inventory / COGS x 365
  • 65 = 5,390.5 / 30,260.2 x 365
  • DSO = Average Account Receivable / Sales x 365
  • 31 = 4,347 / 52,444 x 365
  • DPO = Average Accounts Payable / COGS x 365
  • 163 = 13,543.5 / 30,260.2 x 365

(COGS = Cost of Goods Sold)

Unilever’s cash conversion cycle is -67, meaning the company converts inventory into cash before having to pay suppliers. Basically, Unilever doesn’t have to put up any money to finance inventory purchases because it can move its inventory and collect the payments while still on credit. Thus, Unilever’s suppliers are essentially financing its operations.

Growth Catalysts

Inflation continues to surge as supply chain disruptions continue to plague many companies. This has been further complicated by increasing wages, which have given consumers the ability to continue spending even as prices have increased.

However, since Unilever is a consumer staples company, it offers essential products that consumers need. As a result, Unilever does have the purchasing power to pass on the costs to consumers. This allows it to shield itself from rising costs.

In addition, Unilever is a large company with strong cash flows. Therefore, it has the resources to grow through acquisitions as well. In fact, it routinely spends billions each year on acquisitions. However, investors should not expect any stellar growth from UL, as it is a mature company growing in the low single digits.

Risks

The main risk we see for Unilever is one of its growth catalysts – acquisitions. There is always the risk that acquisitions may be poorly thought out, creating very little value for shareholders. In extreme cases, it might actually destroy value.

Thus, investors should assess whether acquisitions are adding value. A quick way of doing so is by looking at the trend in free cash flow after acquisitions. If the trend is upwards, it’s reasonable to assume that the acquisitions are being made effectively.

Image created by the author

As we can see from the chart above, the general trend has been upwards over the past decade. Therefore, investors shouldn’t be too worried about the company’s acquisition strategy.

Wall Street’s Take

Turning to Wall Street, Unilever has a Hold consensus rating, based on six Buys, five Holds, and four Sells assigned in the past three months. The average Unilever price target of £4,121.61 implies a potential 12-month 6% upside potential.

Final Thoughts

Unilever is a highly profitable company that appears to be successfully adding value through acquisitions. In addition, it likely has the pricing power to deal with rising inflation by passing costs on to consumers.

Nonetheless, it has very low growth, and the upside potential appears to be limited according to analysts. Therefore, we are neutral on the stock.

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