There seems to be a growing belief that this situation is now permanent. Supermarkets are seen as weak businesses with thin margins. Consumer goods groups, such as Unilever, are seen as highly profitable, with good growth potential.

Stock market history suggests it’s a mistake to assume that this kind of divergent performance will last forever. While Unilever has been an excellent investment, it’s also become quite expensive. In contrast, Tesco’s trading is starting to recover, and the firm’s stock looks cheap relative to historical profits.

Marmite could be turning point

Are we about to see a rebalancing between the two sectors represented by Tesco and Unilever? After all, their businesses are quite closely related. Supermarket groups such as Tesco are important customers for Unilever.

The recent Marmite spat — where Tesco refused to accept a price increase from Unilever — suggests to me that the group is not prepared to cut its profit margins in order to support rising profits for big suppliers.

It’s worth remembering that Dave Lewis, Tesco’s chief executive, was formerly a senior executive at Unilever. He has an insider’s understanding of Unilever’s business, and should know where to look for price reductions.

Is Unilever about to crash?

Unilever shares have fallen by almost 15% from their 52-week high of 3,807p. The stock already looks much more attractively valued than it did a couple of months ago. However, I’m not suggesting that Unilever stock is about to crash.

This £40bn group remains a very superior business, with a lot of valuable brands in diversified markets all over the world. Unilever’s reliable free cash flow and growing dividend put Tesco’s years of misguided expansion to shame. Paul Polman, Unilever’s long-serving chief executive, has served shareholders’ interests very well.

However, the reality is that Unilever’s reported earnings per share have only grown by an average of about 3.5% per year since 2010. Unilever shares still trade on a forecast P/E of 20, and offer a dividend yield of only 3.3%. That’s significantly less than the FTSE 100 average of 3.8%.

My hope is that Unilever’s slide will continue in 2017, giving me the chance to top up my personal holding at a more attractive price.

Don’t underestimate Tesco

The market was prepared to write off Tesco a year ago, amid suggestions that a rescue rights issue would be needed to cut debt. Boss Dave Lewis has managed much better than expected. Net debt has fallen by about a third, and profits are rising fast.

Although Tesco shares trade on a forecast P/E of 28 for 2016/17, earnings per share are expected to rise by a further 35% in 2017/18, giving a forecast P/E of 20 for next year. That’s similar to Unilever’s valuation. The big difference is that Tesco appears to have strong earnings momentum at the moment.

Mr Lewis is expected to restart dividend payments next year. I believe trading will continue to improve for several more years. At current levels, I don’t think it’s too late to buy Tesco.

The post Better buy: Tesco plc vs Unilever plc appeared first on The Twelfth Magpie.

More reading

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• Tesco’s share price drops 2% on Q1 trading miss. What’s gone wrong?
• As Tesco shares dip on Q1 results, is this a brilliant time to buy?

Roland Head owns shares of Unilever and Tesco. The Motley Fool UK owns shares of and has recommended Unilever. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Data from the Confederation of British Industry (CBI) last week showed retail transactions grew at their fastest pace in October for 13 months, its sales balance rising to +21 from September’s -8. And the body expects sales to rise by a similar amount this month.

However, the prospect of enduring sterling weakness and dipping consumer confidence amid Brexit-related readjustment is casting a pall over the long-term health of the sector. Indeed, CBI chief economist Rain Newton-Smith commented that “household spending still has some momentum in the short term, but we do expect the fall in the value of the pound to push up prices through the course of next year, hitting people’s purchasing power.”

These warnings come as chilling news to Marks and Spencer (LSE: MKS) in particular, the retail giant already having to contend with lukewarm demand for its fashion offer. The company advised in July that like-for-like sales of its clothing and interiors product lines slumped 8.9% during April-June. That’s a big fall, even in a tough fashion market.

Considering that sentiment towards the retail sector is already looking shaky, I reckon a similarly-disappointing update on November 10 could cause M&S’s share price to hurtle lower.

Supermarket strains

There’s no better news from parts of the British supermarket sector, which has already been the victim of suppliers trying to offset sterling troubles by jacking up prices.

Like Tesco, Bradford-based chain Morrisons (LSE: MRW) was drawn into negotiations with Persil and Marmite manufacturer Unilever last month. But while Dave Lewis’s grocery giant was able — at least reportedly — to avoid a huge cost hike, Morrisons fared less well and was consequently forced to hike shelf prices on Unilever’s goods by around 12.5%.

This adds an extra layer of profits pressure to Britain’s embattled supermarkets, whose margins are already being battered by the progress of low-cost operators Aldi and Lidl. Indeed, Morrisons initiated yet another round of price cuts, this time on some 160 products across the store, just last month amid the ongoing scramble to stop shoppers heading out the door.

The yellow-liveried retailer surprised the City in September by announcing a 2% improvement in like-for-like sales during February-July. But total turnover slipped 0.4% during the period, to £8.03bn.

And conditions are likely to remain tough as its competitors expand their operations in cyberspace and on the street, while the likelihood of yet more pound devaluation takes a further bite out of the bottom line.

Signs of toughening industry conditions in this month’s quarterlies (marked in for November 3) could prove the catalyst for a negative share-price rerating, in my opinion, particularly as recent strength leaves Morrisons dealing on a conventionally-heady forward P/E ratio of 21.1 times.

The post 2 stocks I believe could collapse in November appeared first on The Twelfth Magpie.

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Royston Wild has no position in any shares mentioned. The Motley Fool UK owns shares of and has recommended Unilever. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.

Reports emerged on Wednesday that Unilever — whose star brands include Marmite spread, Persil detergent and Ben & Jerry’s ice cream — has demanded a 10% hike in what it charges Tesco to stock its goods, the company trying to mitigate the impact of sterling’s shocking decline on its margins.

A subsequent fear that Britain will be starved of its kitchen favourites has led to a social media storm, and many thousands of angst-ridden shoppers frantically clearing the shelves of their local Tesco in fear of a supply shortage.

Clearing out

Such battles between supplier and supermarket aren’t uncommon, and are indeed likely to become more numerous in the months ahead should — as widely expected — the pound continue to haemorrhage value amid the unfolding Brexit story.

And while Unilever’s stock price may have suffered as a result, it was last 4% lower in Thursday’s session, it’s usually the retailer that blinks first. Indeed, Tesco is also firmly in the red today as investors worry that even more shoppers could flock to rival supermarkets in a dash for Unilever’s hot labels.

Outperforming the market

The stunning popularity of the London manufacturer’s brands was also underlined by Unilever’s latest financials released today. These showed underlying sales growth of 4.2% during January-September, to €39.7bn, with like-for-like demand in emerging regions leaping 7% in the period.

Although conditions in its markets remains “soft and volatile,” as Unilever itself puts it, the company is able to ride out these pressures as the formidable pricing power of its labels pays off. Consumers are prepared to pay that little bit extra for the goods they crave, regardless of wider economic troubles, enabling Unilever to raise prices when it sees fit.

Soap star

This quality is also enjoyed by PZ Cussons (LSE: PZC), whose vast product range includes the likes of St Tropez tanning lotions and Imperial Leather soap.

Indeed, Cussons noted last month that “the strength of [our] brand portfolio and new product pipeline is serving us well and, together with a continued focus on costs, leaves the group well placed to manage the challenging trading conditions that exist in most markets.“

And like Unilever — which generates 57% of its revenues from lucrative developing markets — Cussons boasts terrific exposure to these hot ‘new’ territories, regions that promise to drive revenues to the stars in the years ahead as disposable incomes and population levels rise.

Pricey but without peer

Both Cussons and Unilever change hands on conventionally ‘lofty’ forward P/E ratings ahead of the FTSE 100 average of 15 times, at 21.4 times and 23 times respectively.

But the unparalleled demand for their labels — helped by a steady stream of product rollouts and clever marketing campaigns — merits these ratings, in my opinion. Indeed, I reckon both Unilever and Cussons are terrific stocks for those seeking stellar long-term earnings growth, regardless of their high ratings.

The post After today’s results, is Unilever plc a better pick than PZ Cussons plc? appeared first on The Twelfth Magpie.

More reading

• 3,566 shares in this FTSE 100 stalwart earns a £1,443 second income
• Here’s what a surging Tesco share price has done to £10,000 invested 5 years ago
• Are Tesco shares losing their momentum?
• Tesco’s share price drops 2% on Q1 trading miss. What’s gone wrong?
• As Tesco shares dip on Q1 results, is this a brilliant time to buy?

Royston Wild has no position in any shares mentioned. The Motley Fool UK owns shares of and has recommended Unilever. The Motley Fool UK owns shares of PZ Cussons. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.