Week 190 - Consumer Staples Companies in the Barron’s 500 List

Situation: Consumer Staples . . . sounds boring, doesn’t it? Here’s why you need to pay attention to this industry. That’s where you’ll find the companies that make all those things we couldn’t make it through the day without: “stuff” we need like food, toothpaste, personal hygiene products, cleaning products and kitchen paraphernalia. Some of us regularly use coffee, tobacco, alcohol, sports equipment, or beauty aids; those also come under Consumer Staples. Demand for these products is inelastic, due to their relative insensitivity to the ups and downs of the economy, i.e., the same numbers of units will be sold whether the price is up or down. If the manufacturer’s cost of production goes up, those costs will be passed on to the consumer without affecting the volume of sales. This degree of “pricing power” is rarely encountered in the other 9 S&P industries. You might think Consumer Staples companies have a license to print money but don’t be fooled. Competition is intense. These companies need to have large worldwide marketing budgets to grow sales, even for familiar brands like Procter & Gamble’s beauty products such as Pantene shampoo.

Here at ITR, we think you should pay close attention to all companies that have large revenues and multiple product lines. Why? Because such companies have strong brands, flexibility to adjust product lines during recessions, and committed customers. The downside is that large companies selling “essential goods” (i.e., Consumer Staples companies) don’t have to fear bankruptcy, thus leading their Chief Financial Officers to conclude that there is little to be gained from building up Tangible Book Value.

In constructing this week’s Table, we’ve examined all of the companies in the Barron’s 500 List, meaning the 500 largest companies by revenue that are listed on the New York and Toronto stock exchanges. Then we’ve eliminated companies that lack the usual indicators of long-term value, namely an S&P bond rating of BBB+ or better and an S&P stock rating of B+/M or better. Those ratings indicate a history of rewarding investors without burdening them with undue risk. Of the 20 companies that survived our cuts, 14 are Dividend Achievers (see Column R in the Table). 

As a group, these stocks appear overpriced when you compare the trailing P/E ratio with the S&P 500 Index’s (see Column J in the Table). However, other measures of value indicate that the group is no more overpriced than the S&P 500 Index. EV/EBITDA in Column K averages 12, whereas our estimate for overvaluation is any number above 13. And, the 20-yr log-linear price trend in Column M shows prices that currently average one standard deviation above trend (i.e., the same 1SD elevation as the S&P 500 Index). Two of the higher-quality companies have pricing that is on trend, Wal-Mart Stores (WMT) and JM Smucker (SJM). Those two companies, plus Hormel Foods (HRL) and PepsiCo (PEP) are on our list of Lifeboat Stocks (see Week 174). A final point: 12 of the 20 companies listed in the Table are food-related, which tells us they’re growth companies, given that tens of millions of people per year emerge from poverty in East Asia and adopt middle-class tastes for food.

Bottom Line: Consumer Staples are where you’ll find rewarding stocks that still allow you to sleep through the night.

Risk Rating: 4

Full Disclosure: I dollar-average into WMT and also own shares of HRL, GIS, KO, PEP, and PG.

Note: Metrics highlighted in red indicate underperformance relative to our benchmark (VBINX); values in the Table are current for the Sunday of publication.

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