Morgan Stanley downgrades Unilever

Morgan Stanley downgraded Unilever on Tuesday to ‘underweight’ from ‘equalweight’ and cut the price target to 3,775p from 4,100p.

The bank said that while it’s not significantly below consensus on earnings, it thinks Unilever's re-rating - to a small premium to Staples - is overdone, particularly given weaker cash conversion and higher emerging markets exposure, relative to peers.

Morgan Stanley noted that following a stronger performance in recent weeks, Unilever now trades at 17.6x 2024e price-to-earnings versus European Staples overall, on 17.4x.

"With correlation between organic sales growth and P/E particularly strong in this sector, the fact that Unilever's medium-term growth rate looks likely to be broadly consistent with the rest of the sector suggests that a re-rating is unlikely," it said.

"Meanwhile, given weaker cash conversion versus other HPC peers - the company has consistently high restructuring charges which it excludes from underlying EPS and operating profit - the stock currently offers only a 3.4% unlevered free cash flow yield for FY24."

MS said that while it thinks management's strategy looks sensible, it is unclear what will drive a further re-rating over the next twelve months. The bank said the valuation seems to already be pricing in successful execution.

"Management has been clear that reinvestment will take time, and the company operates in highly competitive categories," it said.

The bank said within HPC, its top pick is Haleon, which it likes for its exposure to consumer health - a category with high brand loyalty and potential value creation from general industry consolidation.

It also likes L'Oreal for its pure-play exposure to global beauty, which offers higher structural growth, and for its "juggernaut industry status, which allows it to spend more on marketing and innovation than any other industry player".

At 1340 GMT, Unilever shares were down 2.1% at 3,912.87p.