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Colgate

Palmolive
FOREIGN INVESTMENT ANALYSIS

Shivam Bajaj;Rabeyg singh


GMSI 416 INTERNATIONAL FINANCE REPORT

Contents
Company profile .......................................................................................................................................................... 2
Capital structure ........................................................................................................................................................... 3
Debt equity ratio Analysis............................................................................................................................................ 6
Risk factors ..................................................................................................................................................................... 7
WACC ............................................................................................................................................................................ 8
WACC for Colgate Palmolive USA ......................................................................................................................... 9
WACC for Colgate-Palmolive India ....................................................................................................................... 9
The assumptions while calculating cost of capital .............................................................................................. 9
References .................................................................................................................................................................. 10

Company profile
The Colgate Palmolive Company is much diversified firm that deals in the manufacturing and
distribution of personal-care, household and commercial cleaning, pet food and dental
products. The company has its headquarters in New York City in the United States of America
and effectively operates in about 200 or more countries and territories across the globe.
The company was first established in the early 19th century by William Colgate a very skilled
candle and soap manufacturer in New York City under the name William Colgate and
Company. The name was later changed by his son Samuel Colgate who inherited it in 1857.
Madison University in Hamilton, New York was re-named in 1890 to Colgate University in
recognition of longtime financial support by the Colgate family. By 1896 the company sold tubes
of the very first toothpaste and a dental cream. B.J. Johnson had first developed the formula of
Palmolive soap which came to be the worlds highest selling soap at the turn of the 20th century
sold by Palmolive-Peet Company and bought the firm in 1928. It was in 1953 that the current
name was adopted by the firm (Britannica, 2014).
In 1937 Colgate-Palmolive was incorporated and in 1983 Colgate Plus tooth care range was
introduced which was very successful in the market. By 1988 the company was licensed to
produce 24,000 tons of fatty acids and also produced 30,000 tons of soap per annum. In 1988
June, a wholly owned subsidiary was established in Nepal in Hetanda for the manufacture of
tooth powder and paste. New and very successful products like Palmolive extra care, Colgate
gel toothpaste and a new Palmolive soap initially hit the market in 1991(IIFL, 2014).
Colgate-Palmolive has one of the widest distribution networks in India that makes Colgate
available in almost 4.64 million retail outlets across the country. Colgate was ranked as India's
no.1 Most Trusted Brand across all categories for four consecutive years from 2003 to 2007 and in
2011 and 2012 by Brand Equity's Most Trusted Brand Survey.( Colgate-Palmolive | Investor. 2014.
Colgate-Palmolive | Investor. [ONLINE] Available at:
http://www.colgate.co.in/app/Colgate/IN/Corp/Investor/Introduction.cvsp. [Accessed 27 November 2014].)

Capital structure
The key figures of capital structure of the parent company for the year 20143 are-

Colgate Palmolive (US)

USD millions
Mar '13

Mar '12

Mar '11

Mar '10

Mar '09

Total Share Capital

2.31B

2.19B

2.38B

2.68B

3.12B

Equity Share Capital

2.31B

2.19B

2.38B

2.68B

2.95B

Preference Share Capital

0.00

0.00

0.00

0.00

169M

Reserves

0.00

0.00

0.00

0.00

0.00

Net worth

2.31B

2.19B

2.38B

2.68B

3.12B

Total Debt

908M

304M

380M

609M

361M

Total Liabilities

11.3M

11B

10.18B

8.36B

8.71B

Debt/Equity ratio

0.393

0.138

0.159

0.227

0.115

(Market Watch, 2014)


Colgate Palmolive
(India)

Rs. Cr
Mar '13

Mar '12

Mar '11

Mar '10

Mar '09

Total Share Capital

13.60

13.60

13.60

13.60

13.60

Equity Share Capital

13.60

13.60

13.60

13.60

13.60

Preference Share Capital

0.00

0.00

0.00

0.00

0.00

Reserves

475.99

421.79

370.45

312.51

202.70

Net worth

489.59

435.39

384.05

326.11

216.30

Total Debt

0.00

0.00

0.05

4.59

4.69

Total Liabilities

489.59

435.39

384.10

330.70

220.99

Debt/Equity ratio

0.00

0.00

.36

.33

.34

(Money control, 2014).


The net income approach edicts that there is a straight relationship between the capital
structure and the value of the firm. The value of the phone can be regulated by increasing or
decreasing the debt proportion and overall proportion mix.

The net operating income approach states that with increase of debt in D/E ratio, we can
increase the weight of debt which costs less than equity but simultaneously increase the financial
risk. This approach discerns the idea of adjusting the value of the firm just by manipulating the
debt content.

While MM hypothesis with corporate tax states that in most of the countries, debt has an added
advantage over equity. Like interest payments are tax deductible in contrast to dividends and
retained earnings. Capitalizing at all equity rate and comparing the same to an all debt rate
exhibits that the value of the levered firm is same as the unlevered firm with additional tax shield.
Also bankruptcy and agency costs are circumvented.

Capital structure comparison of Colgate palmolive US and


India in terms of debt and equity
3500
3000
2500
2000
1500
1000
500
0
2009

2010

2011

2012

Share capital Colgate US

Share capital Colgate India

Total debt Colgate US

Total debt Colgate India

2013

Chart scaled to observe trend

It is apparent in Colgate Palmolive India, that there arent major changes in equity. This might
imply that there current strategy is to run business as usual here. But they have gradually moved
to an unlevered capital structure. This trend makes it evident that the company doesnt want to
incur any cost on capital or there are no foreseeable expansion plans. As debt would make it
necessary to pay the interest whereas equity doesnt have this component (inbuilt). But Colgate
US has been drastically increasing their debt and gradually reducing their equity which might
imply for them to be taking big steps in the future; also it might be an attempt to have a tax
shield as well.

Debt equity ratio Analysis


Debt - Equity ratio
0.45
0.4
0.35
0.3
0.25
0.2
0.15
0.1
0.05
0
2009

2010

2011
Colgate US

2012

2013

Colgate IND

In reality there is no perfect D/E ratio. Every industry is subject to its own custom tailored
optimized capital structure. Hence there cannot be a black and white conclusion to it.
Generally. A high d/e ratio is seemingly more risky to creditors and investors. There is always an
imminent threat of bankruptcy if a company is extremely levered. With the creditors perspective
in mind, a higher debt-equity ratio can imply that creditors have more stake than the investors
i.e. there are not many willing to invest in the company which increases the risk in the minds of
the lenders.
In the above listed capital structure of both the parent company and the subsidiary, it is easily
noticeable that Colgate-Palmolive India does not have a lot of debt component. While the
parent firm does have a considerable amount of debt listed in its capital structure. Hence the
parent company has a higher debt equity ratio due to the interest rates in India, which are
comparatively much higher than in the US which makes it not very viable to borrow funds. In the
USA, the interest rates are comparatively very low, hence it is very viable for the firm to source its
funding from outside the firm and hence have the benefit of an increased financial leverage.

Risk factors
After the calculation of cost of equity is done, further adjustments are made to account for all
kinds of specific risk factors particular to the company that will increase or even decrease the risk
profile of the company. Some examples are pending law suits, concentration of consumer base,
dependence on certain employees and size of the firm. The adjustments are always made
according to the investors judgmental decisions and are always different from one company to
the other (Investopedia, 2014).
Listed below are all the material risks and other kinds of risks that the firm might consider
immaterial, yet it may affect the firms securities adversely. The occurrence of any of the below
mentioned risks could seriously affect the business, operational results, flow of cash and the
financial condition that will cause the securities to decline in value.
Since the Colgate-Palmolive company effectively operates on a global basis with about almost
80% of its net sales originating from global markets other than the US. Although this diverse
geographic base might help to reduce risks faced in any one country but it also means that the
company is a subject to a whole range of risks associated with international operations likeExchange rate fluctuations- This might reduce the US dollar value of profits, revenues and cash
flows received from around the world that might also lead to an increase in the firms supply
costs which are also measured in US dollars in those respective markets.
Controls and limitations- These exchange controls and limitations will affect the companys ability
to import products or raw materials or to repatriate overseas earnings.
Economic or Political insecurity- Economic or political instability or even labor or social unrest will
change the macro-economic conditions in the markets abroad.
Foreign legalities- These risks include a lack of established or reliable legal system in countries that
the company operates in. Foreign ownership restrictions and potential nationalization of property
and other resources is also a risk that needs to be listed here. There are also many other domestic
or foreign regulatory and legal requirements that would result in adverse tax consequences or
lead to the imposing of certain trade restrictions, government controls or even price controls.
Although many efforts to minimize the inherent impact of all the above listed risks, the firm
engages in a cost-containment, raising selling prices and also hedging of foreign currency
transactions combination. But these measures may not always help in reducing any or all
negative impact of the movements in the rate of foreign currency on the firms result of
operations and the overall business.

WACC
The minimum required rate of return expected on the investment of funds on a company is
known as the cost of capital. It is the costs of raising funds from various sources like equity shares,
debt and preference shares etc. that are available to the company from its point of view. It is
calculated by considering the weight of each source listed in the capital structure of the
company also known as The Weighted Average Cost of Capital or WACC.

WACC = {Kd (1-T) * Wd} + {Ke * We} + {Kp * Wp}

Here:
Kd (1-T) = after tax cost of debt
Wd = weight of debt
Ke = cost of equity
We = weight of equity
Kp = cost of preference share capital
Wp = weight of preference share capital
T = Tax Rate
The interest that is paid on long term borrowed funds is called the cost of debt, since debt is a
taxable expense, after tax cost of debt is calculated.
Kd (1-T) = (Interest paid/Total Debt) (1- Tax Rate)
Here, using the dividend capitalization model, the minimum rate of return that shareholders
expect against their investments in the company is known as the cost of equity.
Ke = (D1/P0) + G
Here:
D1 = Expected dividend for next year
P0 = Current market price per share
G = Growth rate
Growth rate is calculated as the product of Return on Equity and Retention Rate.

CAPM: Re = Rf + (Rm-Rf).

Rf Risk-free rate it can be deemed as the amount that can be received by investing in virtually risk free
instruments like government bonds. The interest rate of U.S. Treasury Bills is frequently used as a proxy for
the risk-free rate.
Beta it is the measure of responsiveness/reaction of the firms stock to the market stock. Positive beta
means the company is quite reactive, as it tends to zero, it indicates that the company is quite stable.
(Rm Rf) = Equity Market Risk Premium it is the premium that investors charge for investing in the firms
instrument rather than risk free government bonds etc.

WACC for Colgate Palmolive USA


Value1

Weight

Required rate of return2

Calculation

Equity (fair 58,904


value)

0.91

7.24%

Debt (fair 5,703


value)

0.09

1.33%

= 2.00% (1 33.61%)

USD $ in millions
Equity (fair value) = No. shares of common stock outstanding Current share price
= 918,943,637 $64.10 = $58,904,287,131.70
Required rate of return on equity is estimated by using CAPM.
Required rate of return on debt is after tax.
Estimated (average) effective tax rate
= (34.01% + 33.46% + 33.69% + 33.64% + 33.25%) 5 = 33.61%
WACC = 6.72%
(Stock Analysis, 2014)

WACC for Colgate-Palmolive India


To arrive at the WACC of 11.8%, we have assumed the cost of equity at 11.8% and the cost of
debt at 12%; however, the company does not have any debt. Based on these assumptions, we
arrive at a valuation of Rs1213 /share for Colgate.
(ICICI securities, 2014).
According to the website equitymaster.com, the FMCG sector is operating at an average
WACC of 15% since the past decade. Since Colgate-Palmolive Indias WACC is less than it, the
firm is able to effectively generate funds at a much cheaper cost than the industry average.

The assumptions while calculating cost of capital


The cost of equity is calculated with the help of a DCM (Dividend capitalization model).
The product of Roe (Return on equity) and Retention ratio is taken as the growth rate.
The amount that is paid on ordinary shares is considered the dividend.
Other assumptions of the DCM are
The consideration of the basic EPS for calculations.
Constant price earnings ratio and dividend payout ratio.
Dividend rate and the market price of a share increase with proportion to each other.

References
Britannica. (2014). Colgate-Palmolive Company. Available:
http://www.britannica.com/EBchecked/topic/125327/Colgate-Palmolive-Company. Last
accessed 26th November 2014.
IIFL. (2014). Colgate-Palmolive (India) Ltd. Available:
http://www.indiainfoline.com/Markets/Company/Background/Company-Profile/ColgatePalmolive-India-Ltd/500830. Last accessed 26th November 2014.
Money control. (2014). Colgate Palmolive (India). Available:
http://www.moneycontrol.com/financials/colgatepalmoliveindia/balance-sheet/CPI#CPI. Last
accessed 26th November 2014.
Market Watch. (2014). Colgate Palmolive Co. Available:
http://www.marketwatch.com/investing/Stock/CL/financials/balance-sheet. Last accessed 26th
November 2014.
Investopedia. (2014). Complete Guide to Corporate Finance. Available:
http://www.investopedia.com/walkthrough/corporate-finance/5/cost-capital/cost-equity.aspx.
Last accessed 26th November 2014.
Stock Analysis. (2014). Colgate-Palmolive Co. (CL). Available: http://www.stock-analysison.net/NYSE/Company/Colgate-Palmolive-Co/DCF/Present-Value-of-FCFF. Last accessed 26th
November 2014.
Icici securities. (2014). Colgate Palmolive (India). Available:
http://www.dsij.in/productattachment/BrokerRecommendation/COLGATE_Sell_ICICI%20Securitie
s_22Jan2014.pdf. Last accessed 26th November 2014.

Colgate-Palmolive | Investor. 2014. Colgate-Palmolive | Investor. [ONLINE] Available at:


http://www.colgate.co.in/app/Colgate/IN/Corp/Investor/Introduction.cvsp. [Accessed 27
November 2014].

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