Back in January, I wrote that I didn’t fancy Unilever (LSE:ULVR) shares at around 3,650p per share, even though Warren Buffett historically tried to buy them at a higher price. As I write, shares in the consumer products company trade at 3,378p. Today, the stock is priced roughly where it was back in June 2016. But earnings per share and operating margins are higher than they were back then. So is it time for me to buy Unilever shares?
Investing in Unilever
Unilever shares have fallen about 15% in the last year. For me, the question of whether or not it’s time to invest comes down to valuation. The company is absolutely the type of business that I like to invest in. It’s reasonably straightforward to understand what it does and what its competitive advantages are. It has strong brands, entrenched relationships with retailers, and efficient scale and distribution. It also has management that’s under pressure from shareholders to reinvigorate its stagnant revenue.
Personally, I don’t mind the fact that the company’s revenue has gone nowhere in the last decade. I think that Unilever’s intangible assets make it reasonably predictable. Growth comes from share buybacks lowering the number of shares outstanding and increasing operating margins. I’m entirely fine with that. But it’s important to me that I pay the right price for that type of business. If earnings aren’t going to increase substantially, then it’s important that I don’t buy shares at a level that prices in significant growth.
Valuation
Over the last five years, Unilever shares have traded at an average price-to-earnings (P/E) multiple of around 20. The stock currently trades at a P/E of 17. In the current market, I don’t find paying 20 times earnings for a company with limited earnings growth attractive. But is it an attractive investment at a P/E of 17?
Unilever’s market cap is currently £88bn. It has just under £27bn in total debt, £4bn in cash, and generated around £5.6bn in free cash last year. All in all, that implies an investment return of around 5%. If the company’s share buybacks can push things along at 5% per year for the next decade (which seems optimistic to me) that means an average investment return of around 6.5%.
For me, an investment return of 6.5% is OK, but it isn’t particularly exciting. As I see it, a satisfactory return from an investment perspective depends on management succeeding in its bid to drive revenue growth by replacing food businesses with personal care brands. Whether or not this will succeed, I don’t know. I also don’t know what the restructuring will likely cost. For me, that makes Unilever too uncertain from an investment perspective.
Conclusion
Unilever is the kind of stock that I’d like to own in my portfolio. At its core, I believe the business can be a stable, predictable, consistent producer of cash. At the moment, however, I think that it’s priced for the growth that management hopes to achieve, but is by no means guaranteed. That’s why I take the view that there are better investment opportunities for me at the moment.
