Despite intense competitive pressures and raw material cost inflation, Unilever (ULVR) started off the year on a solid footing. In our view, consumer spending will remain fragile due to elevated unemployment levels and rising fuel prices, but we believe that the global consumer product firm will benefit from new product launches and marketing investments behind its portfolio of leading brands. We're maintaining our recently raised 2,075p-per-share fair value estimate, and with its shares trading around 15 times forward earnings, we believe Unilever is fairly valued at current market prices.
Excluding the impact of foreign currency movements, acquisitions, and divestitures, first-quarter sales increased 4.3% over the prior-year quarter, reflecting increased volumes (up 2.5%) as well as higher prices (up 1.8%). We contend that this growth was particularly impressive given that it came on top of a solid quarter last year when sales increased 4.1%. Emerging markets (which accounted for 56% of first-quarter sales) were again a notable standout for the firm, posting 9.9% year-over-year sales growth (on top of 7.3% growth last year) due to 6.5% higher volumes and a 3.2% increase in prices. According to management, volumes in developed markets--i.e., North America and Western Europe--came under pressure as Unilever increased prices that weren't initially followed by its competitors (particularly in the spreads business). While we intend to monitor the impact of these higher prices on the firm's sales and profitability over the next several quarters, we expect that firms throughout the industry will look to offset a portion of the uptick in commodity costs with higher prices.
Similar to what we've heard from other consumer product firms, Unilever raised its expectations for commodity cost pressures for the full year to 500-550 basis points of turnover (up from 400 basis points in February). However, Unilever did not provide an update on profitability in its trading update, but we contend that rampant input cost inflation and investments in advertising support are likely to limit margin expansion this year and forecast operating margins to remain about level with fiscal 2010. While Unilever has increased its spending on promotions over the past several quarters to drive volume higher and maintain market share, we expect the firm will continue to selectively raise prices in order to offset commodity cost pressures and maintain its profit margins. However, with unemployment levels still stubbornly high, Unilever's sales volumes could remain under pressure if consumers opt for lower-priced offerings.
