Unilever Down to Underperform

We recently downgraded our rating on Unilever N V (UN - Analyst Report) to Underperform from Neutral weighed down as it is with continued input cost headwinds and a difficult macro-economic environment which shows no signs of near-term abatement.

Unilever recently announced fourth quarter and full year 2011 results. Unilever’s core-earnings per share of €1.41 ($1.96) in fiscal year 2011 increased 4% from the prior year on the back of sales growth. However, gross margins went down by 180 basis points due to higher input costs.

Moreover, Unilever witnessed a tough economic environment in 2011 which is expected to persist in 2012. We thus reduced our earnings per share estimate for 2012 from $2.31 to $2.24 and the revenue forecast from $68.8 billion to $66.4 billion.

Volume growth slowed in 2011 due to rising commodity prices and weaker consumer demand. Unilever sources a wide variety of raw material and packaging materials internationally, which are subject to price volatility.

The company sources two-thirds of its raw materials from agricultural commodities, which in turn are heavily dependent on factors such as weather, farming practices, global demand as well as government programs and policies. Unilever expects commodity prices to continue to rise in 2012.

The company remains exposed to unfavorable foreign currency translations as it has a considerable international presence. With rising investments in the emerging markets, Unilever also faces economic and political risks.

In addition, the debt crisis in Europe can badly impact the company’s European supply chain and the operations of the company. Further the company faces intense competition from its rivals, such as Procter & Gamble (PG - Analyst Report), Kraft Foods (KFT), Kimberly-Clark (KMB - Analyst Report) , Nestlé, Colgate, Sara Lee (SLE) and Shiseido, as well as from local and regional players in the respective countries of operation. Changing consumer preferences also keep the company on its toes.

Given the challenges ahead for Unilever, we remain bearish on the stock.