Last year more than half of Unilevers turnover came from emerging markets including China, Brazil, India, Indonesia and Russia. It was a winning cocktail of countries for the goods maker.
Unfortunately, in the space of 12 months, Russias decided to stretch its borders (prompting heavy economic sanctions from the West), Brazils slipped into recession (for the first time in over five years) and estimates of Chinese gross domestic product growth have fallen.
Now I have to hand it to Unilever, the board has indeed been aware of the risks of being exposed to these unpredictable markets turning down. The company even stated on the record that these markets offered greater growth opportunities, but also expose Unilever to economic, political and social volatility. Why, then, did this weekssales announcement come as such a surprise to investors (with the stock down over 3%)?
Weakest quarter of sales growth in almost five years
Investors were a little taken aback by the degree to which consumers in emerging markets have tightened their purse strings.
In China in particular, Unilevers had a shocker. The consumer goods company said that its witnessed trade de-stocking across its distribution channels. Thats resulted in a decline in Unilevers underlying sales in China of around 20% a figure management would certainly prefer the market didnt know about (especially if its not able to arrest these declines).
The eurozone has also been of little help to the company this time around. Unilever cited price deflation and poor summer weather in the single currency block as factors that damaged its bottom line.
In fact, outside of Britain you struggle to find any bright spots for Unilever. The United States is probably the exception, with Unilever reportedly benefiting from improved economic conditions there.
When it was all tallied up, the company said the number of items sold rose 0.3% in the third quarter. That compares to growth of 1.9% in each of the previous two quarters. Not good.
So whats a CEO to do?
The chief executive, Paul Polman, didnt sugar-coat the immediate outlook for Unilever shareholders. He said the company expects markets to remain tough for at least the remainder of the year. I suspect Mr Polman would prefer investors didnt know that this Fool thinks the slippery slide is actually going to go on well into next year, and perhaps even beyond that point.
Never fear, though, Unilever says it has the answer. Its announced its engaging a strategy that the likes of Tesco and Diageo have trialled that is, cutting prices and appealing more to value customers. For instance, in Italy and Spain, Unilever has launched smaller Cornetto cones, costing just 80 pence. Its also looking at a similar approach in the UK to compete with discount retailers.
Will it work?
As the supermarket chains have discovered, the laws of nature apply to business and commerce as well. That is, you cant just change your spots overnight. Evolution takes longer than that. It takes years to build a brand, and as far as this Fool is aware, Unilever is firmly in the category of consumer discretionary stocks, not staples. The company I think runs the risk of further squeezing its margin by cutting prices more than costs, without generating much extra volume.
Heres where it gets a bit tricky, though. Even if Unilever does manage to appeal to the lower-cost end of the market, the evidence suggests the market wont be any kinder to it. Just compare the performance of Unilevers share price to a basket of consumer staples stocks over the past year. Over the past six months shares in Unilever have fallen 5%, while consumer staples stocks havent performed any better, also down 5%. Stretch that out to 12 months and Unilevers 2% worse off, while our consumer staples basket is down 8%.
Unilever remains a solid company, I just think management would prefer investors didnt know that the companys bottom line wont be able grow indefinitely in perpetuity. Unilevers going to take some hits occasionally and, as uncomfortable as it is, may have to trim its growth forecasts on the odd occasion, too.
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David Taylor has no position in any shares mentioned. The Motley Fool UK owns shares of Unilever and Tesco. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.