European Consumer Staples
The COGS are turning
Harold Thompson
Research Analyst
(44) 20 754 51886
harold.thompson@db.com
Jonathan Fell
Research Analyst
(44) 20 754 50251
jonathan.fell@db.com
Time to return to emerging markets, albeit in a diversified way
In our latest staples report (Emerging Markets & Inflation, 11th June 08) we
cautioned that the risks attached to emerging market growth were not correctly
priced. Our stocks most exposed to emerging markets have since fallen by 44%
compared to our least exposed stocks which are down 20%. We now see this risk
as more correctly priced and therefore turn positive on emerging market exposure
in staples. The alternative to emerging markets is being exposed to negative
growth in developed markets where we see price deflation as a greater risk.
Deutsche Bank AG/London
All prices are those current at the end of the previous trading session unless otherwise indicated. Prices are sourced from local
exchanges via Reuters, Bloomberg and other vendors. Data is sourced from Deutsche Bank and subject companies. Deutsche
Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm
may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single
factor in making their investment decision. Independent, third-party research (IR) on certain companies covered by DBSI's research
is available to customers of DBSI in the United States at no cost. Customers can access IR at
http://gm.db.com/IndependentResearch or by calling 1-877-208-6300. DISCLOSURES AND ANALYST CERTIFICATIONS ARE
LOCATED IN APPENDIX 1.
Industry Update
Top picks
BAT (BATS.L),GBP1,739.00 Buy
Heineken (HEIN.AS),EUR22.99 Buy
Imperial Tobacco (IMT.L),GBP1,815.00 Buy
Reckitt Benckiser (RB.L),GBP2,652.00 Buy
Unilever (UNIA.AS),EUR17.01 Buy
Companies featured
BAT (BATS.L),GBP1,739.00 Buy
2007A 2008E 2009E
DB EPS (GBP) 108.53 127.41 138.60
P/E (x) 15.3 13.6 12.5
EV/EBITA (x) 11.4 10.4 9.6
Heineken (HEIN.AS),EUR22.99 Buy
2007A 2008E 2009E
DB EPS (EUR) 2.28 2.24 2.34
P/E (x) 18.6 10.3 9.8
EV/EBITA (x) 13.9 11.2 9.7
Imperial Tobacco (IMT.L),GBP1,815.00 Buy
2008A 2009E 2010E
DB EPS (GBP) 137.49 154.90 170.06
P/E (x) 16.2 11.7 10.7
EV/EBITA (x) 13.9 10.9 9.8
Reckitt Benckiser (RB.L),GBP2,652.00 Buy
2007A 2008E 2009E
DB EPS (GBP) 123.36 152.09 173.64
P/E (x) 21.9 17.4 15.3
EV/EBITA (x) 16.8 13.4 11.5
Unilever (UNIA.AS),EUR17.01 Buy
2007A 2008E 2009E
DB EPS (EUR) 1.23 1.40 1.52
P/E (x) 18.0 12.1 11.2
EV/EBITA (x) 13.8 8.1 9.3
Global Markets Research Company
Reviewing our negative stance on emerging markets
We remain cautious regarding the severity of the economic downturn around the
world and the impact of this upon demand for consumer products. However, we
expect growth to remain positive in emerging markets, in contrast to declines
elsewhere. We believe both the currency risks associated with investment in
Emerging Markets and the slowdown in demand are now priced in by the market.
We therefore favour companies with exposure to emerging markets, so long as
this is diversified geographically. Some of the brewers and food companies are
best placed in this regard.
Falling input costs good news, but better for some
Price increases were the main tool used by consumer staple companies to offset
rising input costs. With those costs now falling, price cuts are likely. This means
the consumer staple model of high sales growth and muted margins of recent
times is likely to change to one of lower growth and better margins. We believe
the battle in coming months will be to limit price erosion to maintain the benefit of
falling input costs. We expect those that pushed volumes rather than price, that
distribute in fragmented channels mainly in emerging markets as best placed to
benefit from input cost falls. Again, some brewers and food accompanies look
best placed to benefit from the trend of falling inputs.
Brewers best placed, Tobacco and Food appealing, Spirits & HPC expensive
Our analysis concludes that emerging market exposure is desirable over mature
market exposure even if this comes with caution of “diversified” emerging market
exposure. From a sub sector point of view, brewers best match this view.
However Unilever in the food space comes out well. On the back of this report
and individual company analysis our best ideas in European consumer staples are
BAT, Heineken, Imperial Tobacco, Reckitt Benckiser and Unilever. Stocks which
we would avoid include Cadbury, Carlsberg, Henkel, L’Oreal and Swedish Match.
Valuation and Risk
We place considerable reliance on DCF to set our price targets. We additionally
track long term PE trends for individual stocks and the group relative to the wider
market. Risks that could affect the entire space (up or down) include –
acquisitions, input costs, consumer demand trends and peer group
competitiveness. A valuation sheet with current share prices, target prices and
recommendation can be found in Appendix B.

Table of Contents
Ranking our Preferences................................................................... 3
Sizing up the stocks to watch in 2009 ......................................................................................3
Emerging Markets ............................................................................. 5
A significant driver of growth....................................................................................................5
Crashed but not burned ............................................................................................................6
A shelter from the storm.........................................................................................................10
Slow Growth Better than no Growth but Diversity is Key.......................................................13
Falling Input Costs........................................................................... 14
Impact of rising commodity costs ..........................................................................................14
Earnings Impact of rising input costs ......................................................................................17
Input costs are now falling. What will happen next?...............................................................18
How long could it take for volumes to recover post price cuts?.............................................19
Are distribution channels a safety net against price cuts? ......................................................20
Any evidence of price cuts to date?........................................................................................21
P&L Impact of Input Cost Fall .................................................................................................22
What are we currently forecasting? ........................................................................................23
Input cost conclusion ..............................................................................................................24
A Wider Range of Valuations.......................................................... 25
Focusing on the Cost of Equity...............................................................................................25
Appendix A: Z-Scores...................................................................... 28
Emerging Markets Exposure...................................................................................................28
Diversity of Exposure to Emerging Markets ...........................................................................28
Input Cost Sensitivity ..............................................................................................................29
Retail Channel Makeup ...........................................................................................................29
Volume versus Price Growth ..................................................................................................29
Valuation ................................................................................................................................29
Appendix B: Valuation and Recommendation.............................. 30