Unilever Indonesia P&G presses the go button on Indo - Macquarie

Event
Procter & Gamble Indonesia (P&G) has announced that it intends to invest US$100m over the next three years to build local production facilities in Indonesia. At present, P&G imports all of its products from production facilities located in Thailand and other regions. Limited details have been provided at this stage, but we believe initial commissioning could occur much sooner than three years. We also note that the US$100m size is material relative to the current book value of UNVR’s PP&E of US$480m (at at FY10A).

Impact
Implications: We believe the implications of this announcement are two-fold. Firstly, we believe it highlights P&G’s growing commitment to the Indonesian marketplace, being one of the four key regions (the others being India, China, and sub-Saharan Africa) that P&G highlighted in recent market commentary as offering significant growth potential for the company. Secondly, we believe the commissioning of local facilities has the potential to make P&G more cost competitive in the medium term, given the relatively high cost of importation in Indonesia, and thereby facilitate more aggressive pricing strategies.

An aggressive competitor: Our Indian analyst Amit Mishra highlighted in his recent note No respite (1 April 2011) on Hindustan Unilever (HUVR IN, Rs274, Underperform, PT Rs235) that P&G has recently taken price cuts of 15–33% across its hair care brands Pantene and Heads & Shoulders in India, despite a backdrop of rising raw materials costs. We also recently highlighted in our note Where for art thou upside? (24 March 11) that P&G had failed to follow UNVR’s recent price increases in the hair care space in Indonesia.

We believe P&G’s track record of aggressive competitive actions in other emerging markets increases the risk of a similar modus operandi being pursued in Indonesia, with market share acquisition being made to be the priority. Given UNVR’s current elevated NPAT margins of 17%, we believe there is likely to be considerable scope for P&G to cut prices to build scale.

Earnings and target price revision
No change: We are already 8–11% below FY11–12E consensus estimates, and in any case we expect the impact of this announcement to be felt incrementally over a 2–5 year timeframe rather than a 12 month timeframe.

Price catalyst
12-month price target: Rp13,000 based on a DDM methodology.
Catalyst: 1Q11E results (expected towards the end of April).

Action and recommendation
MarQuee Underperform call maintained: The implications for UNVR are driven by its premium pricing, and the high degree of complacency that continues to exist about growing competitive risks, in our view. Our Rp13,000 valuation is the most we can justify on maturity issues alone, prior to factoring in any impact from competitive pressures on margins. With P&G ramping up its Indonesian competitive assault, we believe this represents an important and growing risk area for which investors are not being compensated.