Dueling Fools
Battlestar Gillette-ica
March 24, 1999

Gillette Bear's Rebuttal
by Warren Gump ([email protected])

For the most part, Louis and I agree on the most positive attribute of Gillette. We concur that the razor and blade business is terrific and one that the company will likely dominate in the years ahead. We both even agree that the price of the stock looks richly valued. Where we seem to diverge is in the certainty for the prospects of Gillette's other businesses. As mentioned in my opening salvo, these products represent about half of Gillette's profits. These products are strong, but in no way dominate the market like the razor business. Since these other businesses aren't as strong, I don't want to pay the same kind of multiple for their earnings.

When going out to purchase a battery, not too many people care whether they purchase Duracell or Energizer. Most people consider the two competing products to be interchangeable. You go into the store and pick up whichever brand's alkaline product is available (or the cheapest). I have not yet seen an ad for one of the two primary battery makers that causes me to hold any brand allegiance. The same can be said for many of the company's other product lines such as deodorant and disposable pens.

Louis discusses Gillette's strategy of introducing higher priced, more technologically advanced products across its product lines. While this strategy is admirable and innovation is integral to maintaining the integrity of many consumer brands, I worry that Gillette has gone a little too far off the deep end in terms of what the mass market is willing to pay for regular product purchases. We already discussed the $5 toothbrush. I'm not sure what product will be next, but I can just imagine something like a $9 bottle of White Rain hair spray or the $8 spool of Oral-B dental floss. At some point, investors are going to balk at these increasing prices (particularly in today's low inflation environment). When that happens, Gillette is going to have a paltry return on the tens or hundreds of millions of dollars it invests in each of these new products.

While I've commented that the razor/blade business is terrific, we should remember that some limit on Gillette's pricing power does exist. Many years ago, prior to Gillette's introduction of the Sensor, some analysts were predicting the end of the non-disposable razor market. Disposables offering a decent shave at extremely low prices were killing the market share of the replaceable blade market. The introduction of the high quality Sensor shaving system changed this trend, but it is important to realize that a risk of a similar shift exists. The higher Gillette goes with its prices, the more likely a competitor will offer a low-cost product that takes market share from Gillette.

One line on Gillette's income statement worth further elaboration is revenues. In 1996, the company had total sales of $9.7 billion. One year later, sales for this stalwart growth company increased to $10.1 billion. For those of you who don't calculate percentages off the top of your head, that is only 4% growth. Okay, to be fair, the company faced numerous challenges, including its initial encounter with the Asian Contagion. I'm sure that a look at 1998 results will show that 1997 was an aberration.

So how was 1998? Total sales came in at $10.1 billion. Even those without a calculator in your head will probably notice that that number is flat with the prior year (if you carry the number out another decimal, you find that sales declined slightly). Over the past two years, Gillette has seen compound annual revenue growth of only 2%. That's not the kind of figure that I look for when investing in a growth company.

I'm not going to lie and say that I think Gillette is a bad company. The company has numerous positive attributes mentioned in both Louis' and my arguments. In addition, results for this year should be quite strong, thanks to easy comparisons with last year and the benefit of the MACH3 launch. Nonetheless, I'm not convinced that each division of the company has the ability to march steadily toward the significantly higher sales and earnings that are implied by the stock's current valuation. When faced with the question, "Would I buy Gillette stock now?" My answer is a definitive, "No."

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