29 June 2023

In the second quarter of the last year Daniel Loeb’s Third Point hedge fund initiated position in shares of Colgate-Palmolive (NYSE: CL). Position was subsequently increased and as of the latest quarterly disclosure on SEC is valued at $830 million and is the second-largest holding in the fund after PG&E Corp.

According to media reports, Loeb sees value in Colgate’s pet foods business “that could achieve a valuation of close to $20 billion on its 2023 numbers”.

Another story pointed out by hedge fund manager is that “consolidation in the consumer health sector points to more opportunities for Colgate”.

Colgate’s pet food business generated sales of $3.7 billion in FY 2022 and achieved an operating profit of $850 million. Estimating an EBITDA at $915 million means that a $20 billion valuation implies x21.86 EV/EBITDA multiple on FY 2022 results.

One might ask why such a high multiple in current market environment?

And the answer to this question unlocks (in my view) the real reason for Loeb’s investment in Colgate.

I don’t know why, but thinking about this, I remembered an article published back in 2009 with some thoughts by not less famous investor and hedge fund manager, George Soros.

For some reason I liked this phrase: “stop-go”.

And this phrase might be the key for a possibly high valuation multiple of Colgate’s pet food segment as well as the main reason for Colgate investment by Third Point.

I think that in the current inflationary environment, certain companies provide products and services whose pricing might become subject to a “stop-go” process.

If you think about Colgate, which manufactures and sells basic, essential products, is it possible that the price of Colgate toothpaste which sells for $5.47 for a pack of three will jump 100% to $10.94? Easily. And people will still buy it. Because it is branded, because it is not an expensive item, and because it is a basic daily necessity.

Colgate Catiry Protection Toothpaste

Source: Walmart website

And if the price of this bag of cat food (below) jumps 50% to $38.99 you will not get one for your loved one?

Hill's Science Diet Dry Cat Food Package

Source: Walmart website

Colgate is currently valued at an EV/EBITDA valuation multiple of about x16.8 based on FY 2022 results. So the sale or spin-off of the pet food segment might unlock some value, however the valuation multiple of even x20 is comparable to the whole company’s current valuation.

The separation or sale might create a situation where the remaining Oral, Personal and Home Care segments will become much more interesting from the “stop-go” pricing perspective.

Another interesting company from this “stop-go” pricing perspective is company called Mister Car Wash (NYSE: MCW).

Company went public in July 2021, however shares declined by approximately 58% percent since then. Company recently provided a FY 2023 guidance and expects to achieve Adjusted EBITDA of $287 million. At the present market capitalization of $2.67 billion and an Enterprise Value of $3.51 billion (net debt is without operating lease liabilities), shares are valued at an EV/EBITDA valuation multiple of x12.24.

Mister Car Wash is the largest national car wash brand and as of March 31, 2023, it operated 439 car washes in 21 states. A large proportion of company’s revenue is based on revenue from the subscription model. A basic UWC (Unlimited Wash Club) membership for example costs $19.99 per month.

Mister Car Wash Location picture (from company's presentation)

Source: Mister Can Wash Presentation

One can argue whether car wash service is a more basic necessity or more of a discretionary spending in nature. I personally think that it is more of a basic necessity type of spending.

If you think about pricing – it might be similar to Colgate: in an inflationary environment, at some point the price might rise significantly without damaging the demand. And $20 or even $40 per month is not too much after all for driving a clean car. It seems that if one like Colgate story, one should like Mister Car Wash story as well.