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Especially most recently, leverage has become a burden

Unlevered names have generally outperformed levered names

Net Debt/EBITDA as of latest quarter

Unlevered

Levered

9.0x

110%

8.0x

105%

7.0x

100%

6.0x

95%

5.0x

90%

4.0x

85%

3.0x

80%

07/06/2018

07/12/2018

07/18/2018

07/24/2018

07/30/2018

08/03/2018

08/09/2018 08/15/2018

08/21/2018 08/27/2018 08/31/2018

09/07/2018

09/13/2018

09/19/2018 09/25/2018

10/01/2018 10/05/2018

10/11/2018 10/17/2018

10/23/2018

10/29/2018 11/02/2018

11/08/2018 11/14/2018

11/20/2018

2.0x

NWL

COTY

KDP

TAP

COT

STZ

VVV

EPC

06/29/2018

SPB

1.0x

0.0x

HY Credit spreads have widened

2H stock price performance

500 bps

30%

400 bps

20%

KDP, the notable outperformer

10%

amongst levered names

300 bps

0%

200 bps

-10%

100 bps

-20%

0 bps

18

18

18

18

18

-30%

17

18

18

18

18

18

18

-40%

Dec

Jan

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep

Oct

Nov

-50%

HY Consumer

IG Consumer

SPB

NWL

COTY

KDP

TAP

COT

STZ

VVV

EPC

Levered names as shown. Unlevered names include: PG, KO, PEP, MO,CL, KMB, MNST, EL, CLX, CHD, CCEP, and NUS. Credit spreads data includes consumer products USD-denominated debt for high yield and investment grade issuers on an options-adjusted basis.

Source: FactSet, Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	9

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Mirroring the broader market, CPG “Growth” names have lost their luster

CPG growth names like EL, STZ, MNST, BF.B saw their stock prices and valuation multiples expand from mid-2017 through 1H18; however, performance stalled in 2H18 due to elevated global growth fears

Indexed stock price performance

EL

BF.B

STZ

MNST

220%

200%

multiples

180%

GrowthCPG

160%

140%

120%

100%

80%

11/23/2016

12/19/2016

01/13/2017

02/08/2017

03/06/2017

03/29/2017

04/24/2017

05/17/2017

06/12/2017

07/06/2017

07/31/2017

08/23/2017

09/18/2017

10/11/2017

11/03/2017

11/29/2017

12/22/2017

01/19/2018

02/13/2018

03/09/2018

04/04/2018

04/27/2018

05/22/2018

06/15/2018

07/11/2018

08/03/2018

08/28/2018

09/21/2018

10/16/2018

11/08/2018

NTM valuation multiples

Average of CPG growth names (LHS)

Vs. S&P 500 multiple (RHS)

2.0x

32.0x

1.9x

30.0x

1.8x

multiples

1.7x

28.0x

Vs.market

1.6x

26.0x

1.5x

24.0x

1.4x

22.0x

1.3x

11/23/2016

12/23/2016

01/26/2017

02/27/2017

03/28/2017

04/27/2017

05/26/2017

06/27/2017

07/27/2017

08/25/2017

09/26/2017

10/25/2017

11/24/2017

12/26/2017

01/26/2018

02/27/2018

03/28/2018

04/27/2018

05/29/2018

06/27/2018

07/27/2018

08/27/2018

09/26/2018

10/25/2018

Source: FactSet, Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	10

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So, where do we go from here? Fundamentally, on top-line...

US/Europe

China

6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

0.0%

(1.0%)

HPC/Bev Organic Growth Coinciding with Strong US Retail SSS

(0.5%) 2.3%		0.0% 4.2%	1.8% 3.7%	1.6% 3.2%	3.2% 3.3%	2.2% 3.6%	3.3% 5.4%	2.5% 3.8%
1Q17		2Q17	3Q17	4Q17	1Q18	2Q18	3Q18	4Q18E

9.0%

7.5%

6.0%

4.5%

3.0%

1.5%

0.0%

(1.5%)

Growth in China remains robust for many despite trade war rhetoric

(PEP +DD; EL +DD; PG +4%; KO “strong”)

	HPC		Beverages		Retail SSS (RHS)

US trends improving but how much of US strength is because economy at a peak?

Will pricing stick?

Europe benefited from weather in ’18, and fears of Brexit’s impact loom in the nearto mid-term

 But tariff risks loom:

“And as the President has also made clear, we will levy even more tariffs, with the possibility of substantially more than doubling [$250B], unless a fair and reciprocal deal is made.” – VP Pence

Source: FactSet, Company filings, Deutsche Bank analysis

Brazil

Volatile macro in Brazil led to more mixed performance recently

On one hand, MNST +32%; KMB +High teens; PEP +DD; PG +HSD.

On the other hand, CL, EL, and AVP each cited declines and a tough environment

However, even as economy remains distressed, there is some hope of pricing flowing through, as well as hope of stabilization amidst a new government

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	11

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Where do we go from here?

Lower oil prices fuelling optimism on GM expansion…

	While oil prices have declined recently, natural gas prices have	Typically, there is a 2-quarter lag between oil price changes and GM
	increased materially, likely muting the positive impact on margins (along
		change on a quarterly basis
	with pulp contracts at higher rates and other cost inflation – e.g., freight)

							Indexed price change since 1/1/17																	YoY % chg. In WTI Crude (LHS)	YoY % Chg. In GM (RHS)
175%									Natural Gas				Crude Oil									Lag		(100%)	4.0%
155%																								(80%)	3.0%
																						Qtr		(60%)
																									2.0%
																								(40%)
135%																						Chg%in Oil, 2	(inverted)
																								(20%)	1.0%
																								60%
115%																								0%	0.0%
																								20%
95%																								40%	(1.0%)
75%																						YoY		80%	(2.0%)
11/01/17	11/15/17	11/29/17	12/13/17	12/27/17	01/10/18	01/24/18	02/07/18	02/21/18	03/07/18 03/21/18 04/04/18 04/18/18 05/02/18	05/16/18	05/30/18	06/13/18	06/27/18 07/11/18 07/25/18	08/08/18	08/22/18	09/05/18	09/19/18	10/03/18	10/17/18	10/31/18	11/14/18			100%	(3.0%)
																								1Q04 4Q04 3Q05 2Q06 1Q07 4Q07 3Q08 2Q09 1Q10 4Q10 3Q11 2Q12 1Q13 4Q13 3Q14 2Q15 1Q16 4Q16 3Q17 2Q18

YoY Chg in Avg. Quarterly GM

On an LTM basis, there is an R-square of 46% between change in reported GM and changes in oil prices (since 2005) with a 2-qtr lag

Approximately 37% of the YoY change in quarterly GM can be explained by YoY change in quarterly oil prices (with 2-qtr lag)

	2.5%			y = -0.024x + 0.0021			4.0%
	2.0%					GM	3.0%			y = -0.0207x + 0.002
GMLTMinChgYoY	1.5%			R² = 0.4593						R² = 0.3703
						QuarterlyinChgYoY	(2.0%)
	1.0%						2.0%
	0.5%						1.0%
	0.0%
							0.0%
	(0.5%)
	(1.0%)						(1.0%)
	(1.5%)
	(2.0%)
	(2.5%)						(3.0%)
	(75%)	(25%)	25%	75%	125%		(75%)	(25%)	25%	75%	125%
		YoY % Chg in LTM Oil, 2 Qtr Lag							YoY % Chg in Oil, 2 Qtr Lag
CPG companies include: PG, KMB, CLX, CHD (from 2011), CL, and PEP
Source: FactSet, Company filings, Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	12

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Where do we go from here?

However, the market typically prices lower oil in real-time…meaning current stock prices may already be reflecting much of these benefits

		Crude Oil WTI ($/bbl) YoY chg. LHS
	75%	YoY CPG Relative Price Performance vs. S&P - RHS				-25%	S&P
	65%
YoY($/bbl)WTIchg.						-20%	PerformancePricevs.
	55%
	45%					-15%
	35%					-10%
	25%
CrudeOil	15%					-5%	RelativeCPG
	5%					0%
	-5%					5%
	-15%						YoY
	-25%					10%
	07/09/2018	08/06/2018	09/04/2018	10/02/2018	10/30/2018

Crude Oil WTI ($/bbl) YoY chg. LHS

	100%	YoY CPG Relative Price Performance vs. S&P - RHS			-30%	S&P
chg.YoY($/bbl)WTIOilCrude	90%				-25%	PerformancePriceRelativeCPGvs.
	20%
	80%				-20%
	70%
	60%				-15%
	50%				-10%
	40%				-5%
	30%				0%
	10%				5%	YoY
	0%				10%
	03/02/2010	03/30/2010	04/28/2010	05/26/2010

	20%			Crude Oil WTI ($/bbl) YoY chg. LHS												-20%
	10%			YoY CPG Relative Price Performance vs. S&P - RHS													S&P
																-15%
																	PerformancePriceRelativeCPGvs.
chg.YoY($/bbl)WTIOilCrude	0%															-10%
	-10%
	-20%															-5%
	-30%															0%
	-40%															5%
	-50%
	-60%															10%
	-70%															15%	YoY
	07/01/2014	07/30/2014	08/27/2014	09/25/2014	10/23/2014	11/20/2014	12/19/2014	01/21/2015	02/19/2015	03/19/2015	04/17/2015	05/15/2015	06/15/2015	07/14/2015	08/11/2015
	135%				Crude Oil WTI ($/bbl) YoY chg. LHS											0%
					YoY CPG Relative Price Performance vs. S&P - RHS												S&P
																5%
	115%																PerformancePriceRelativeCPGvs.
YoY($/bbl)WTIOilCrudechg.
	95%															10%
	75%															15%
																20%
	55%															25%
	35%															30%
	15%															35%	YoY
	-5%															40%
	06/09/2008			07/08/2008			08/05/2008				09/03/2008			10/01/2008

CPG companies include: PG, KMB, CHD, CLX, CL, and PEP. Changes based on daily price movements. Source: FactSet, Company filings, Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	13

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Where do we go from here?

Looking further ahead, pricing tends to ultimately follow oil as well…

Will current efforts to take price ultimately be dealt back?

We see the possibility of 1-2 “perfect” quarters next year if pricing sticks while lower commodities flow through, but would ultimately expect outsized deflationary benefits to be dealt back through lower pricing and/or higher promotions

	Typically, a 3 to 4-quarter lag between oil price change and pricing	32% of quarterly pricing can be explained by YoY changes in quarterly
		oil price changes (since 2005) on a 4-quarter lag

YoY Oil Price % Ch, 4-quarter lag

WTI Crude % Ch YoY (LHS)					Average CPG Pricing (RHS)						7.0%
								8.0%			6.0%			y = 0.0277x + 0.0072
130%															R² = 0.322
											5.0%
80%								6.0%	(%)	Pricing(%)	4.0%
									PricingCPG		3.0%
								4.0%
											2.0%
30%
								2.0%			1.0%
									Average
(20%)								0.0%			0.0%
											(1.0%)
(70%)								(2.0%)			(2.0%)
											(75%)	(25%)	25%	75%	125%
1Q05	4Q05 3Q06 2Q07 1Q08 4Q08 3Q09 2Q10 1Q11	4Q11	3Q12	2Q13	1Q14 4Q14 3Q15	2Q16 1Q17	4Q17	3Q18
												YoY change in crude oil prices

CPG companies include: PG, KMB, CHD (since 1Q10), and CLX (since 3Q06) based on data available. CPG Price=price + mix where available Source: FactSet, Company filings, Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	14

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Where do we go from here?

Will the retailer détente continue?

Macro Backdrop

“New” Retail

Considerations

(e.g., Amazon,

Aldi/Lidl)

Traditional Retail

Considerations

(e.g., Walmart,

Kroger)

CPG

Fundamentals

End of 2017 /

Early 2018

•Late-cycle, slow-growth recovery

•Still-muted consumer demand

•Minimal/moderate inflation (some lingering concerns even of deflation)

•AMZN customer acquisition-focused

•Goal to “win” in grocery—with “winning” defined by market share

•Steep discounting / aggressive pricing

•Deep price cuts / heavy promotions to keep up with AMZN/hard discounters

•Elevated focus on private label

•Intensified scrutiny of branded CPG assortment and service levels

•Minimal CPG pricing power

•Margin pressure as a result of price cuts, rising cost inflation

•Shelf-space challenges

•“Balance of Power” shifting to retailers

Mid-2018 to Today

Looking Ahead

•Rising signs of inflation & recent rollover in oil prices

•Low unemployment, growing consumer confidence (partly aided by tax cuts)

•Tax cuts aid corporate P&Ls

•De-emphasis of pure customer acquisition at AMZN

•More focus on profitability; moderation in extreme pricing

•Slower hard discounter expansion

•Traffic/demand/SSS improving

•Easing of “new” competition; relative equilibrium reached

•Relatively less competitive pressure allowing for pockets of price increases

•Less overt pressure from retailers

•Organic growth showing signs of improvement (especially in US)

•Hopes of future GM stabilization/ expansion given plans to raise price

•Potential slowdown in consumer confidence and economic growth

•Potential difficulty lapping the 2018 tax cut

•Potential reacceleration of elevated competition

•With slowing demand; focus again could turn to market share wins

•AMZN to reinvest in price again?

•Potential return to more competitive dynamic if aggregate demand slows or AMZN reasserts itself

•Potential re-emphasis on pricing

•Growth/margin disappointment if:

•Consumer demand slows

•Oil/commodities re-inflate

•Rekindled pressure from retail competition erodes pricing power

Source: Deutsche Bank analysis

See also: AMZN/Retailers vs. CPG Suppliers : Equilibrium at Risk? (Oct 29, 2018)

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	15

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Where do we go to from here?

Looking forward to 2019, we remain cognizant/wary of further potential downside to risk assets (and relative upside to

Staples), yet we remain more optimistic on the ability of global demand to persist, more cautious on the ability of CPG stocks to over-deliver vs. expectations, and thus more cautious on CPG stocks in general (particularly within HPC)

Most Bearish for Economy/Market		Most Bullish for Economy/Market
Most Bullish for Staples Broadly (on a relative basis)		Most Bearish for Staples Broadly (on a relative basis)
		DB Base Case

Recession Fears

Build, Defensive Bid

Persists Unabated

15%

Aforementioned macro headwinds continue to stoke fears (e.g., trade wars, excessive interest rate hikes, BREXIT, etc.)

CPG fundamental pros/cons likely to matter less than the market’s desire simply to “de-risk” and continue to pursue safety

Economic Growth

Slows, CPG

Fundamentals Hold

Up/Improve

25%

Perceived macro risks become more measured, but headwinds pressure economic growth (more cyclical sectors especially)

CPG companies able to outperform with more stable late-cycle fundamentals, aided by recent pricing & cost deflation (helping to rebuild margins)

Economic Growth

Slows Less Than

Feared, CPG

Fundamentals

Underwhelm

50%

Economy proves more resilient than feared (perhaps aided by more nuanced/more accommodating Fed Policy and/or a thawing of global trade and geopolitical tension)

CPG fundamentals fall short of expectations (e.g., stagnating or faltering organic growth, commodity reinflation, unrealized pricing power, and/or FX pressure)

Economic Growth

Proves Resilient,

Risk Appetite Fully

Reemerges

10%

Market shrugs off recent macro concerns as merely a “correction” in an otherwise-sustained bull market

CPG fundamental pros/cons likely to matter less than the market’s desire simply to “re-risk” and pursue growth

Source: Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	16

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Top Picks:

Growth Scenarios – EL, MNST, STZ; Core CPG – KO, IFF, TAP, MO

		Recession Fears	Economic Growth Slows, CPG	Economic Growth Slows Less	Economic Growth Proves Resilient,
		Build, Defensive Bid Persists		Than Feared, CPG Fundamentals
		Unabated	Fundamentals Hold Up/Improve	Underwhelm	Risk Appetite Fully Reemerges
Top picks - likely to	KO						Color Key:
work across /	IFF
independent of	TAP
multiple macro
scenarios	MO
Top growth picks -	EL
likely to work best if	MNST
economic growth
resilient	STZ
Stocks to work best	NUS
if economic growth	BF.b
resilient
	PG
	KMB
Stocks likely to work	CHD
best if defensive bid	CLX
persists	CCEP
	CL
	PEP
	ENR
	EPC
Company-specific	AVP
	COTY
stories with DB view
cautious/neutral -	SPB
some macro	NWL
influence
	VVV
	COT
	KDP

Most favorable scenario

Favorable scenario

Neutral scenario

Cautious scenario

Most cautious scenario

Source: Deutsche Bank analysis

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	17

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Where do we go from here?

PG may be the bellwether (as it has been thru 2018)

Favorable top-line in FY1Q (particularly in the US) due to:

i.A strong economic backdrop;

ii.A more stable retail environment; and

iii.Share gains in select unscanned channels (aided by promotion)

So, can PG's top-line strength continue (alongside presumed future margin improvement)?

 Possibly…especially (i) if the U.S. retailer détente continues; and (ii) if U.S. economic strength remains robust

But if that is the market's base case, should not AMZN and the XRT have performed better of late relative to the XLP?

Caution: several instances in the last decade when PG has exceeded expectations in one quarter, only to disappoint down the road

Source: FactSet, Company filings and websites, Deutsche Bank analysis

Did PG’s 1Q19 US results benefit from a pull-forward of demand – e.g., from sizeable promotions (and double-digit growth) at Costco?

Promotion valid for purchases made 9/5/18 – 9/30/18 at Costco (In warehouse & online). Spend $100 (after discounts and before taxes) on select Procter & Gamble products and get a $25 Costco Cash Card by mail.

With cyclical/discretionary sectors underperforming recently amid fears of an economic peak, we note that P&G's organic growth is also somewhat cyclical…meaning it may be risky to extrapolate recent strength linearly

PG Quarterly Organic Growth

10.0%

8.0%

6.0%

4.0%

2.0%

0.0%

(2.0%)

1Q01

4Q01

3Q02

2Q03

1Q04

4Q04

3Q05

2Q06

1Q07

4Q07

3Q08

2Q09

1Q10

4Q10

3Q11

2Q12

1Q13

4Q13

3Q14

2Q15

1Q16

4Q16

3Q17

2Q18

1Q19

Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	18

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Where do we go from here – Tobacco

Will FDA overhangs abate or entrench themselves?

FDA’s recent actions against e-vapor/JUUL generally favorable for incumbents (when viewed in a vacuum)

BUT the Agency’s parallel efforts against combustible menthol cigarettes carry negative risks (if successful)

Even though it’s unclear if FDA actions on menthol can be implemented quickly, the market is already pricing in the worst case scenario

For example, MO’s stock is already down ~18% since the FDA’s announcement—effectively commensurate with the percentage of MO’s profits represented by combustible menthol cigarettes/flavored cigars

BATS and MO account for just under 90% of US menthol volume…

Barring near-term volume declines accelerating materially below our modeled -5% normalized rate, we see underappreciated upside to the extent that either:

i.E-vapor limitations spur a temporary lift in combustible volumes

ii.E-vapor limitations ultimately expand further (following underwhelming reductions in youth participation, as determined by the FDA)

iii.PM/MO's pending IQOS PMTA/MRTP applications are approved and IQOS achieves commercial success in the US

iv.Menthol/nicotine reduction regulation is prolonged or made less absolute

…with BATS’s US portfolio more skewed to menthol relative to MO

Global Tobacco : New dbDIG Proprietary Survey Sheds Light on Potential FDA Actions (Nov 11, 2018);

Source: Nielsen, Company filings, Deutsche Bank analysis		Altria : More Complicated, Yes. But Probably Overdone (Nov 16, 2018)
Deutsche Bank	Steve Powers | ([phone] | [e-mail]
Research	Faiza Alwy | ([phone] | [e-mail]	19