Procter & Gamble Company (PG) — Q3 2018 Earnings Call Transcript

Good morning, I'm pleased to be joined this morning by David Taylor, P&G's Chairman of the Board, President and Chief Executive Officer, and John Chevalier, our Vice President of Investor Relations. I will begin with a brief overview of the Company's results for the January/March quarter and our outlook for the fiscal year. David will share additional insights on the year and provide updates on key strategic focus areas and the announcements we made this morning regarding the planned acquisition of Merck KGaA's OTC healthcare portfolio and the dissolution of our over-the-counter healthcare joint venture with Teva. After that, we will open the floor for questions. This quarter was challenging amid a tough environment, yet we managed to achieve modest growth on both the top and bottom lines. We have made strides in improving productivity while continuing to invest in our brands. Consequently, we remain on target to meet our fiscal year objectives, but we recognize the need to perform even better. The ecosystems in which we operate globally are undergoing significant changes, prompting us to adapt even more quickly by enhancing our superiority, strengthening cost and cash productivity, and bolstering our organization and culture. In good news, we have raised the dividend by 4%, marking the 62nd consecutive year of increases. We also announced important moves this morning that will enhance our position in OTC healthcare, positively impacting the Company's growth and profitability. Our overall volume and value share trends have continued to improve, with volume shares now aligning with prior year levels in both developed and developing markets. Seven out of ten global categories are either growing or maintaining volume share. Although our value share is down by 30 basis points, when adjusting for intra-category mix impact, the decline narrows to just 10 basis points. Several major businesses have shifted to positive share trends, with shares in Feminine Care and Skin and Personal Care on the rise. The Global Shave Care value share is now aligned with prior year levels on both a three- and six-month basis, and share growth is evident in Fabric Care, Home Care, and Personal Health Care. Nonetheless, we have faced challenges in sales growth within a difficult market landscape, particularly in major markets like Saudi Arabia, Egypt, Nigeria, and Brazil, which collectively present over a 30-basis point headwind to our top line. The transformation of retail trade in the U.S. is reshaping our categories, with rapid shifts to e-commerce and strict inventory management primarily impacting trade inventory reductions, resulting in a notable organic sales decline of around one point this quarter. From a business perspective, we have not met our expectations in the Baby Care and Grooming segments, which David will discuss further. The rest of the Company's portfolio is demonstrating organic sales growth of over 3% year-to-date. We see ongoing opportunities to enhance product, packaging, communication, market entry strategies, and the overall value of our offerings across the portfolio while boosting productivity, things we are committed to improving. Overall sales increased by 4%, aided by about a 3-point boost from foreign exchange effects, acquisitions, and divestitures, while organic sales rose by 1%, driven primarily by a 2% increase in volume. We achieved solid organic sales growth in categories such as Fabric Care, Home Care, Feminine Care, Personal Health Care, and Skin and Personal Care. Regionally, we experienced mid-single digit growth in Greater China, Japan, France, and the Philippines; high single-digit growth in Russia; and double-digit organic sales growth in India and Turkey. Our e-commerce sales remain robust, increasing by over 30% year-to-date, and we are maintaining or growing e-commerce market share in eight of our ten product categories. However, this growth has been somewhat tempered by declines in Baby Care and Grooming, both of which saw lower performance this quarter compared to the previous year. Product mix, particularly the strong growth of premium-priced items, contributed an additional point to organic sales growth, while pricing created a two-point headwind in organic sales. Although the overall figure may suggest a significant pricing increase, unrounded calculations show about a 1.5 point impact, which is a 30 basis points difference from last quarter, with some factors now beginning to stabilize. Pricing adjustments in U.S. Gillette impacted organic sales by approximately 30 basis points, but after annualizing the price change at the start of this month, we anticipate stronger sales moving ahead. The U.S. Oral Care business recently withdrew a list price increase implemented last year, which had left us operating at an unsustainable price premium. This shift is causing some short-term negative price effects, which will begin to stabilize in July. Pricing in Fabric and Home Care has decreased due to promotional investments to keep us competitive in both the U.S. and Europe, and these will also stabilize later this year. Looking ahead, we will continue to ensure our brands, while delivering on product performance, represent excellent competitive value for consumers, which will involve price adjustments and a focus on enhancing value as we introduce new benefits. We will also adjust prices to counter rising commodity costs when necessary and justified by competitive circumstances. With these strategies, plus the annualization of key investments, we currently expect to see a return to positive pricing trends sometime in the upcoming fiscal year. Concerning earnings, overall earnings per share were $0.95, reflecting a 2% increase from last year, including $0.04 per share in non-core restructuring costs and $0.01 related to non-core impacts from the tax act. Core earnings per share reached $1, marking a 4% rise. However, our operating margin declined by 100 basis points and our gross margin decreased by 110 basis points due to higher commodity and freight costs. Core SG&A expenses fell by 10 basis points as a percentage of sales. Our productivity gains in cost of goods and SG&A provided a benefit of 310 basis points for the quarter. The core effective tax rate was 21%, two points lower than the previous year, primarily due to the effects of the U.S. tax act. This was partially offset by increased interest expenses and currency swap costs as we optimized our international cash management in light of the new tax regulations. The rate was slightly lower than our expectations from last quarter as we deepen our understanding of the provisions in the tax act. Adjusted free cash flow productivity was a robust 95%. We are making good progress in working capital through our supply chain financing initiatives. We repurchased $1.4 billion in shares and distributed $1.8 billion in dividends, totaling $3.2 billion returned to shareholders this quarter. As mentioned previously, we raised our dividend by 4%, marking the 62nd consecutive annual increase and the 128th consecutive year P&G has declared dividends. Regarding our guidance for fiscal 2018, we are maintaining our expectations for organic sales growth at 2% to 3%. Currently, we are at 1.4% year-to-date, positioning us at the lower end of this range, possibly rounding up to 2% for the full year. We anticipate an overall sales growth of about 3% for fiscal 2018, which includes a net benefit from foreign exchange, acquisitions, and divestitures. We have adjusted our outlook for core earnings per share growth, raising it from a range of 5% to 8% to a range of 6% to 8%. Commodity costs are projected to be a $350 million after-tax headwind for the year, consistent with previous projections. Transportation costs now represent a $200 million headwind for the year, while foreign exchange accounts for an approximate $175 million after-tax benefit. The combined influence of commodities, transportation, and foreign exchange is a $0.14 per share effect on core earnings, representing a four-point drag on core earnings growth. Despite these challenges, we foresee a return to improvements in gross and operating margins in the fourth quarter, bolstered by strong productivity progress while maintaining investments in our brands. We now expect the core effective tax rate for the year to fall within the 22% to 22.5% range, which is about half a point lower than our earlier outlook. As we noted last quarter, the changes arising from the U.S. tax act are extensive and complex. The charges booked for non-core effects and the core effective rate may ultimately differ from our estimates and require adjustment. There could be potential changes and regulatory interpretations of the tax act provisions, as well as legislative actions arising from it, and our impact estimates may shift as we refine calculations for earnings and exchange rates for our international subsidiaries. We're also raising our guidance for adjusted free cash flow productivity from 90% to approximately 95%, reflecting strong year-to-date performance and our fourth-quarter outlook. This guidance accounts for capital expenditures in the range of 5% to 5.5% of sales. Fiscal 2018 is set to be another year of substantial cash returns to shareholders, with expectations of nearly $7.5 billion in dividends and share repurchases between $6 billion to $8 billion. In total, we aim for a combined return of $13.5 billion to $15.5 billion in value to shareholders, following $22 billion last fiscal year and $16 billion in fiscal 2016. In conclusion, we are achieving top and bottom line growth in a challenging environment while witnessing improving market share trends. We are focused on driving cost and cash productivity, returning cash to shareholders, investing for the long-term viability and competitiveness of our brands, and strengthening our OTC healthcare portfolio. I will now turn the call over to David, who will elaborate further on our strategic priorities, the Baby Care and Grooming segments, and the acquisitions we announced this morning.

Thanks, Jon. Before discussing our long-term strategic choices, I want to clarify that this is not business as usual at P&G. We will implement additional changes to accelerate our progress. To achieve balanced growth in both revenue and profit, we must expedite advancements in five key areas: product, packaging, brand communication, retail execution, and value for both consumers and customers, alongside improved productivity to support these changes. We are also taking necessary organizational steps to enhance speed, local flexibility, and accountability. Although we see progress in various areas, we haven’t yet unified our efforts to achieve the industry-leading balanced growth and value creation we aim for. I want to emphasize Jon's point regarding our fiscal year management. We chose to keep investing in product and packaging improvements, sales resources, marketing, and consumer value, even amid profit challenges from rising commodity costs and slow sales growth, to bolster the long-term health and competitiveness of our brands. One example of our proactive measures is the identification of $200 to $300 million in savings to offset a portion of our investments and meet our fiscal year goals, but we recognize that more is necessary to drive growth in a challenging environment. We will not compromise the long-term health of our business through cuts to vital investments. Our portfolio comprises everyday products that address consumer needs and drive brand preference. We know how to achieve success in all ten of our core categories. In markets where we believe we are superior in at least four out of five key areas, we observe consistent improvements in financial performance indicators like household penetration, market growth, share growth, sales growth, and profit. However, there remain too many markets where we haven’t achieved superiority in those four areas, and those segments are not growing at the desired pace. I'll highlight specific instances where we’ve underperformed and outline our plan to rectify this. First, Baby Care represents our largest opportunity for improvement. The challenges we’re facing are specific to each market and well understood. We are addressing them swiftly; although resolution has taken longer than anticipated, recent trends in China from our global pants and naturals launch indicate we can make progress in key growing segments. We now need to ensure the overall brand grows across crucial markets, which is our next goal. In China, for example, diaper organic sales rose 2% this quarter, marking an important milestone as it’s the first growth in 16 quarters. We are adjusting our portfolio and establishing plans and capacity to succeed. This follows a 12% decline during the first half of the year, indicating clear progress, driven primarily by pant-style diapers and premium taped options, though we still see declines in mid-tier taped diapers, which constitute about half of our sales in that segment. We are working to stabilize this as success relies on excelling in growing segments while stabilizing core offerings. Moving to the U.S., we are encountering a different set of challenges. The market is evolving, with some retailers aggressively offering private label products at lower prices, creating significant challenges for our Loves brand. Despite our efforts to make Loves competitive again, we have not achieved the desired results yet, with price reductions nearing 20% in certain areas. We are taking further actions including marketing efforts, in-store visibility enhancements, and necessary value adjustments. Globally, Pampers faces unique challenges in many difficult markets, notably in the Middle East, Africa, and Brazil. We expect market-specific dynamics to stabilize over the next few quarters. We have also faced a tough period in Europe, though things are beginning to improve. A positive development in Baby Care is the continued momentum of Pampers' pants, which constitute 25% of the diaper category and are growing in the mid-teens. Pants-style diapers now represent 27% of diaper changes, an increase of 3.5 points over the past year. Future growth in the global diaper market will be driven by these products, making it critical for us to succeed in this area. Pampers pants have maintained the number one global value share for over a year, currently standing at about 28%, bolstering our lead against strong competitors. Another segment facing growth challenges is our Grooming business. We made a conscious decision to enhance our grooming position in the U.S. last year, and it’s now showing positive results. The U.S. male shave care market has seen volume growth for the fourth consecutive quarter, with male shaving systems increasing by 10% this quarter. We anticipate that the strong volume growth we've experienced over the past year will lead to increased sales as price adjustments take effect this quarter. This is evident as we see growth in both volume and value share in the last month and three-month periods in the U.S. Our goal remains to increase the number of users for Gillette blades and razors, and the volume trends are promising. This marks a significant turnaround after years of declines, with our user base increasing by approximately 2 million. However, we now face new challenges for Gillette in the U.S. as value-driven competitors expand their in-store presence and direct-to-consumer offerings into new European markets. We recognize these challenges, which are not unexpected, and we have robust plans in place to support Gillette. When we successfully execute our superiority model, we encourage market and share growth. I mentioned several examples previously at the CAGNY Conference in February. Our Fabric Care business in various markets, including the U.S. and Japan, as well as Always Discreet incontinence products, SK-II, Olay in China, and Fairy and Dawn dish soaps, were part of that discussion. We need to respond to an evolving world and changing consumer demands, particularly the increased interest in natural and sustainable products. We've introduced innovations like Tide, Gain, and Ariel detergents which are among the most compacted available. On the natural side, we are making strides with brands such as Tide Purclean, Gain Botanicals, and Dreft Purtouch, which use bio-based olefins while providing excellent cleaning performance for consumers seeking natural profiles. In the FemCare category, we launched Whisper pure cotton in China, featuring a 100% natural cotton top sheet, which has had a successful start with sales exceeding expectations. In Baby Care, we are broadening distribution for Pampers' pure protection diapers made without fragrances, parabens, or chlorine bleach, and for Pampers Aqua Pure Wipes that contain 99% water and premium cotton. Retailer support has been promising, and early consumer feedback is positive. Our in-store share is already surpassing several incumbents in this category who have been established for longer. Consumers are looking for high performance coupled with natural ingredients and a lesser environmental impact, and P&G brands can deliver that. Additionally, we launched ZzzQuil PURE Zzzs, a melatonin-based sleep aid devoid of artificial flavors, gluten, lactose, and gelatin, that has also met with positive distribution results. These organic innovations enhance our brand image and attract new users to familiar brands, now enhanced with performance and natural and sustainable advantages. While some brands are strong enough to lead, we recognize the need for additional offerings in other cases. We are also pursuing growth through recent acquisitions, like Native natural deodorant and Snowberry Skin Care, a Naturals brand from New Zealand. We remain committed to whatever it takes to thrive in this rapidly growing segment. Lastly, I'd like to touch on the strengthening of our Personal Health Care portfolio, a category we've identified as highly attractive. Today, we are announcing a significant step forward by terminating our partnership with Teva, effective July 1. Our joint venture with Teva has been successful for nearly seven years, with organic sales experiencing a compound average growth rate of nearly 8%. However, we have mutually agreed that our strategies and priorities no longer align. I want to thank Teva's management and employees for their collaboration in making this partnership a success. Following the conclusion of our agreement with Teva, we are enhancing our OTC capabilities and growth opportunities through the acquisition of Merck's consumer healthcare business. This acquisition perfectly complements the capabilities and scale we lost with the dissolution of the PGT joint venture, incorporating substantial technical and commercial capabilities that will integrate well with our existing global consumer health care business. This deal adds around $1 billion in annual sales, primarily across Europe, Latin America, and Asia, and has been growing at a mid-to-high single-digit rate. It also introduces new therapeutic areas into our portfolio, covering a range of treatment categories including muscle, joint, and back pain relief, as well as relief for colds and headaches, alongside support for physical activity and mobility. These treatment areas are not currently part of our existing P&G portfolio. Presently, P&G's OTC business generates over $2 billion in annual sales, playing a crucial role in growth and value creation, with a history of profitable mid-single-digit growth. Our current portfolio includes the largest consumer health care brand globally, Vicks, which has over $1 billion in annual sales. Vicks positions us as a leader in OTC cough and cold treatments and in digestive health with Metamucil, Pepto-Bismol, and Align. We see multiple opportunities where Merck's strengths can enhance P&G's brands and operations. We continue to view Personal Health Care as a financially appealing category within the $230 billion market. The three megatrends driving OTC healthcare growth over the past decade are expected to persist: an aging population projected to double from 650 million people aged 65 or older to about 1.6 billion by 2050, a shift towards wellness and quality of life rather than simply aging by number, and greater consumer control over health and wellness with proactive product information seeking. Both public and private sectors are also working to address rising healthcare costs. As discretionary income on health and wellness continues to rise in developed markets, and with increasing incomes in emerging markets, consumers are spending more to look after their families' health. Therefore, we believe that companies excelling in consumer insights, meaningful consumer-driven innovations, and trusted brands will have the best chance to capitalize on these trends. By leveraging advanced capabilities, technologies, and brand equities to solve consumer problems and enhance their lives, we are fully aligned with P&G's overall strategy. OTC healthcare presents a very attractive market, and we are excited to bring Merck's brands and talent into P&G. Now, I’ll pass it over to Jon to provide more details on the financial implications for P&G regarding these transactions, including the dissolution of the PGT joint venture with Teva.

The Procter & Gamble-Teva joint venture will continue to operate through June, the end of our fiscal year; and the Merck deal will close outside of the fiscal year. So, there's no impact from either transaction on fiscal 2018 forecasts or results. Completion of the Merck consumer health care transaction is, of course, subject to customary antitrust reviews and approvals, and while we don't anticipate issues, it's difficult to predict precisely when that transaction will close. If we assume the Merck transaction closes at the end of the calendar year, we expect that we will add about $500 million to P&G all-in sales and will be neutral to organic sales, core earnings per share, and all-in earnings per share growth in fiscal 2019. It will be accretive after that, growing at a faster rate and the balance of the company at very attractive margins. We don't expect significant impacts to capital allocation choices, and obviously have full line of sight to the deal as we made the decision to increase the dividend by more than we did in the prior year.

Thank you, Jon. We’re enthusiastic about the opportunities this combination presents to sustain robust, profitable growth in our personal health care business and the expansion of our portfolio into new relevant benefit areas, amidst several organic expansions in the natural space. We are addressing more consumer needs, particularly with Always Discreet in female incontinence, while also enhancing fabric products, and we are innovating faster and more cost-effectively through lean innovation techniques. Although we are making headway, we face strong competitors who are continually innovating their products and business models. Tackling these challenges and enhancing our product offerings and demand creation will require investment, highlighting the importance of productivity. We will persist in our productivity improvements to lower costs and generate cash, and this needs to accelerate from our current pace. We completed a $10 billion productivity program in fiscal 2015 and are now in the second year of a five-year program aiming to deliver up to another $10 billion in savings. One notable change for P&G is our commitment to speed up our transformation, including the overhaul of our supply chain and efforts to reinvent the media supply chain. We have shared updates on our supply chain transformation progress. We are beginning production of several categories at our new state-of-the-art multi-category manufacturing facility in West Virginia. We’re also implementing strategic changes in our media supply chain and our partnerships with agencies. We are taking significant steps to reinvent how our brands collaborate with agencies to enhance brand communication and improve productivity in marketing spending. This enables us to reinvest in media and sampling to promote growth. We started by reducing the number of agencies from 6,000 to 2,500, resulting in savings of $750 million through 2017. In the next phase, targeting 2021, we will further consolidate to 1,250 agencies, saving another $400 million while reinventing agency models. Among the significant changes are establishing a fixed inflow model that involves structuring a retainer with a core agency for large campaigns, supplemented by open-sourcing agencies when necessary. Our people-first approach focuses on attracting exceptional creative talent from various agencies for improved creativity at market speed and insourcing media planning work that can offer better value within P&G. We are adopting new media support models, some of which do not depend on traditional TV-led communication plans. Our core principle centers on connecting our brands to consumers with a more empowered, agile, and accountable approach, placing more resources closer to the consumers we serve. While we’ve made advancements, further changes are necessary to boost improvement. We are cutting production costs to ensure that our advertising reaches the intended audience effectively. We are also enhancing media transparency to minimize waste and lower expenses, having already eliminated significant media waste in the past year; we have reinvested those savings to increase reach by 10% in trial programs and boost trials by about 50%. Simultaneously, we are revisiting our organizational structure to uncover new productivity opportunities, reducing corporate staffing, and reallocating resources closer to consumers and customers. We are concentrating not only on cost productivity but also on cash generation. An important aspect of our cash productivity initiatives has been expanding supply chain financing, which has generated nearly $5 billion in cash over the past five years. Improving productivity is vital to fund investments aimed at growing sales and market share while continuing to enhance profit margins. Alongside our productivity efforts, we are evolving our organizational structure and culture to navigate the shifting retail and competitive landscape effectively. We have learned to allocate more resources closer to the consumers we serve, emphasizing accountability, agility, and speed. We are now nine months into implementing our end-to-end and freedom within a framework organizational model, which simplifies the structure and clarifies responsibilities. We are still in the early phases of this new design, learning, improving, and refining our successful models as we progress. A clear example of our improvement is evident in Greater China, where we shifted from a 5% sales decline two years ago to a 6% growth today. We recognize that further changes will be necessary to ensure we are effectively competing across a wider market share. We have discussed the importance of enriching our talent pool by supplementing our internal expertise with skilled external hires, which will enhance our compensation and incentive programs. We are also increasing the detail of our bonus programs, now tethered much closer to individual performance outcomes. In response to shareholder feedback, our board's compensation and leadership development committee has adjusted the performance stock program to include relative sales growth metrics and a total shareholder return modifier to align awards with performance against external benchmarks. We are exploring other ways to adjust incentive compensation to foster greater accountability, such as increasing the stakes of at-risk compensation and closely linking incentives to team and individual results. Despite the current environment's challenges, we are making progress, achieving our financial goals, and remain committed to improving results in baby and grooming segments while advancing our strategic priorities and driving productivity. This is not business as usual, and we are taking active steps to initiate change. Our focus on streamlining and strengthening our portfolio to bolster our competitive edge, transforming our supply chain to enhance our leading margins, and simplifying our organizational structure for increased accountability is all directed at achieving balanced growth in both revenue and profits to create value in the short, medium, and long term. Jon and I are now ready to address your questions.

Clearly, there are a number of near-term dynamics at play that I'm sure will be in focus throughout the call, pricing and the Merck acquisition probably front and center. But David, I wanted to take advantage of you being here and just step back for a minute, building on some of the comments you just made because when I think back to when you came as the CEO in late '15, you have a definite vision to return P&G to stable, profitable, and market-share positive growth at the risk of oversimplifying. I think calendar '16 was to be an investment year, '17 a year of stabilization, and '18 a year of acceleration toward sustainability going forward. I mean even just six months to nine months ago, the plan was very publicly said to be working, and we were supposed to be accelerating into the fiscal year end. So while I appreciate the incremental call to action today, it just feels that with the results today and the updated outlook, we're just a good ways away from that outcome? And I guess the question is, 2.5 years in, how does the board and the rest of the management team assess just the overall state of P&G's turnaround? And from here, what's the definition of success and how long should investors expect to wait just to get there? So I think we all understand the external challenges and we definitely appreciated the organization's efforts today, but at the same time we've been expecting more from the investments made these past two years. I'd just love your perspective.

Just a couple of comments. One I would say, we have today a meaningful acceleration on eight of our businesses, and I feel good about those. Eight of our businesses are now growing over 3% and the profits are very strong. Core EPS on those selected parts of the business would be strong. We had two that have clearly been bigger challenges than we anticipated. The steps that we are taking are showing signs, but it’s taking longer. And that’s going to require more change and more interventions, and we are taking those in each one of the brand-country combinations in both baby and grooming to get them turned. What I’ve seen, though, that I think reinforces that P&G is turning is just the breadth of brands, countries that are showing now strong growth, and it is showing up in share, with the exception of in those two categories. I don’t think investors should wait very long. I expect next year that we will turn. And I think right now the critical part is to ensure that Baby Care and Grooming execute their plans and the interventions that are planned and that we also continue to make and we will continue to make changes as needed as new market realities come forward. The last six months we’ve seen improvements in many really important areas, and as P&G is getting in a very real way into the natural segment. P&G addresses some of the fastest growing segments. Now, it’s the first time in many years where we’re starting to see the majority of our top 20 markets turning. China is growing now in the mid-singles, as we said it would. Japan, strong growth in the mid to high singles. The majority of our top 15 to 20 markets are turning. So we do have some issues, we understand them, and we are making additional interventions to address them.

I wanted to ask about the ongoing inventory destocking, which seems to be occurring not just in the U.S. We are seeing significant destocking, which was also an issue last quarter. We closely monitor what retailers are saying. I’m curious to what extent this reflects specific dynamics within your P&G portfolio, rather than just overall industry destocking. For instance, you mentioned Harry's getting distribution at Walmart; could this indicate some loss of shelf space for Gillette? Retailers are also focusing on private labels, so what’s happening with shelf space in that area? In beauty, retailers are sourcing their own products with new disruptor brands, which might be affecting some traditional shelf space. I’m interested in understanding this as a dynamic that goes beyond retailers simply managing inventory for efficiency, and more about how the brands are performing and what the outlook looks like.

I’ll give a comment and Jon, if you have any to jump in there. If I look just at the U.S., recently we’ve turned to kind of right at flat, and actually, it’s plus 0.1. Your comments there were very fair. We have seen a couple of dynamics that I think you’re hearing from us, and probably some others. The pressure on retailer trade much is real. The pressure in increased emphasis on private label is very real. The dissolution of that is innovation that grows categories and that I think we’re actually well positioned, but we have to do even more. And as we’ve done it, we have certainly seen progress. I don’t believe that the end of just the modest inventory reductions is everybody working very hard to improve the supply chains, and we anticipate that, and we're looking at that next year. We have seen more adjustments than planned this year as we commented on. The key to me, though, in each one of these categories is where we've demonstrated we can bring new ideas, not mentioned before the Fabric Care example where we come in with whether it’s unstoppable or whether it's coming with just based laundry upgrades or new line extensions, we've been able to grow the category growth share. The challenge is in all these categories to do the same. After several years, we've seen Olay really start to take hold both in the U.S. and China, but what's required was a rethinking of the communication model, of our in-store presentation, and in many cases, new items that appeal to consumers. The most recent launch is doing extremely well. So, I believe category by category, you have to look at it and while there is some inventory destocking, I believe the fundamental winning and losing will be determined by do you have a consumer proposition that is preferred and do you have a customer proposition that grows the category and helps create more margin. And there's a lot of pressure on that right now as the profit pool is being pressured because of the dynamics that exist that you're well aware of both from discounters and from the e-commerce side, and we'll have to deal with that.

There is one other thing, Lauren, that we're actually well proactively contributing to this inventory reduction and that's the supply chain transformation that David talked about, and with our ability now to source, to have 80% of our sales sourced within 24 hours from production to shelf, there's less system inventory that's required and that's a good thing over periods of time. So, there is that element of contributing as well. And that's certainly a U.S. dynamic but increasingly a dynamic in other parts of the world, as we transform the supply chain to better serve our customer base.

So David, your comment in the release about the ecosystems in which you operate being disrupted and transformed, and some of commentary on the call and your presence all seems to be highlighting a change in tone. And I guess my question to you would be, do you think there's been a material change in the profit growth outlook for the categories that P&G competes in, in the U.S. and globally versus what you would have expected a couple of years ago? I mean you're pointing to some problems in baby and grooming, but you had negative pricing in every single division this quarter that's despite a commodity spike. That's not the way branded CPG companies are supposed to operate, you know organic sales is weakening despite a lot of that great internal work you've done to strengthen the organization over the last few years. And what I'd argue is that theoretically, we have a great macro environment for the U.S. consumer in what's a key geography for you? So I just want to understand would you agree there has been a change in the sort of profit growth algorithm for the industry or the categories you're in? And then, how does that affect your expectations for P&G's longer-term EPS growth? B, willingness to invest behind the business? And C, the capital allocation decisions in terms of if M&A and diversification play a greater role going forward? I know I'm cheating and asking multiple questions, but I think they're all related and important for your shareholders.

You did ask many big questions, I'll give comments. Jon will comment and we'll see if we can handle some of this. What is clear is what it takes to win has gotten more difficult, do I believe that the profit availability has changed dramatically? No, and then look at some of our probably highest margin parts of the business to invest, but there is SK-II in West Coast where our total beauty business is making very good progress. Our Fabric Care business globally and in the U.S. is making very good progress. And I think what it takes it's got more difficult and then I mean that should actually favor overtime companies that have tremendous technology and can differentiate through a dimensioned superiority that matters to consumers on the five elements. But I’ve got my eyes wide open that it’s going to take additional funding to make that happen and that’s why we do have to change faster. I am on the call because; one, I think the healthcare change is a meaningful positive step; and secondly, I want to be very clear it is not business as usual P&G. But it's not because anyway does it take away from the future, it actually just reinforces how we’ve made the choice that we’re going to make additional changes to accelerate and get back on positive share growth, top line growth, and bottom line growth. There are many things that are working very well on the Company; a few are not in those, we’re not going to work that kind of that we’re growing through some tough challenges right now. But the fundamental strategy owing through some tough challenges right now with the fundamental strategy and the profit potential, I think are very much still there, just requires faster moves, and we’re one of the common on this and just illustrates. We have many questions a year ago on China because we come off a very difficult time, and there we did have to move in a different way than the past. A number of capabilities directly in the market and what we see there is almost instant reaction from the minus five to plus one to the plus six. In the U.S., we’ve got many categories also turning. You have a dynamic in Baby Care that is very difficult and we’re addressing it. We haven’t had a dynamic a year ago and Shape Care, and we’re addressing that and you will start to see the last one to three months meaningful improvements. If you've got consumers coming in, and you’ve got innovation that is the write down, we’ve seen consumers are willing to pay interestingly the fastest growing segment is around most parts of the world are premium, super-premium, new forms, and naturals. All of those still carry very good profit margins and very good growth rates. We do have to continue to transform our portfolio to increase the percent of our business in those forms, and one example that’s playing out across the world is pants and diapers even though it’s been a difficult category. I am very pleased that we’re leading the fastest growing segment; the consumers around the world are choosing for their babies.

I think the only thing I would add to that, Dara, is our two points. David made a point in his prepared remarks, so I think is very important to talk to the benefits of noticeable superiority, packaging products and communication of the market, etc., and where we have that right. We’re delivering our business objectives all the way from household penetration to market share to profit growth the vast majority of the time. And where we don’t have that right is very clear we’re not delivering against those objectives. So that’s not a macro dynamic and that scenario that’s holding us back, it’s increasing the level of advantage that we need to with our current portfolio which, as David said, we’re going to use productivity to help fund. The other perspective I give you, and this is not in any way an excuse, it’s a perspective on whether it’s a systemic issue here or not from a market level standpoint to the point of your question. If you look at, as David mentioned this earlier as well. If you look at sales growth, excluding baby and grooming where we know we have work to do we’re 3% fiscal year-to-date, and profit growth 9% fiscal year-to-date. So, there is nothing as we look at the totality of the portfolio that indicates to us that those kinds of results aren't available on a broader basis.

So, I guess the question and maybe Jon you can answer this on category growth. How that's looking relative to where we were the last time you have the call three months ago? And if there's any way you can give us context between volume and pricing because it looks like pricing has broadly been deteriorating across the entire industry? And just related to that, I know you've talked a lot about the competition and it seems like the emerging markets and the local players are becoming much more sophisticated and much more of a nuisance for you guys and other multinational companies. So just wanted to understand either changing anyway you're making decisions to help compete against those local companies a bit more effectively?

Market growth in the last quarter was essentially unchanged in aggregate from when we last talked last quarter. It's about 2.5% in our categories that's comprised of mid-singles and developing markets and low singles in developed markets. So, that's the status on market growth; pricing, as I talked briefly about in my prepared remarks has also essentially unchanged versus when we last talked, that is 30 basis points of additional price. But I don't think and clearly, I mean I guess the retail dynamics that are recurring there is pressure on price, but where we can bring meaningful benefits, superiority to market we're seeing the ability to price. Pods or a premium-priced item, these are premium priced. The Naturals elements items that we're bringing to market are premium priced. So to the innovator, there continue to be a pricing opportunity.

As I reflect on where we're losing market share and where we can regain it, you're right that our most significant losses have been to local and regional competitors. However, I have observed positive changes over the past couple of years. For instance, in the FemCare category, we faced challenges from local competitors like Hang On. Our performance was between a 94 and 95 index a few years back, but we grew to 105 in fiscal '16 and '17, and we're currently tracking above 115 this fiscal year. This improvement is due to the introduction of our pure cotton product and the comprehensive lineup we've developed, along with a dedicated team that has effectively understood consumer needs. We've also restructured our staff to enhance our decision-making capabilities at the market level, assigning additional personnel to support this initiative. Similarly, with Olay, we've seen growth from indexing in the 90s back in '14 to '16 to an expected index above 110 this year, indicating potential for further acceleration. Our success in these areas has been influenced by various factors beyond our core strategies, as local and regional competitors are active in the market. It's crucial to distinguish between areas where we can gain share and where value is created and maintained. Across our FemCare, Oral Care, and Personal Care segments, we are improving individually, contributing to an overall positive trajectory, especially in Mainland China where our performance is even better against tough competitors. The innovation cycle has shortened, requiring faster decision-making, and we've reorganized for greater efficiency. We're approaching the Chinese market more aggressively. India remains a challenging market, but despite the significant transitions over the past year, we're now experiencing double-digit growth by enhancing our market strategies and ensuring we have consumer-preferred products. One major change has been allowing more flexibility in local markets to tailor communication that resonates with consumers. I firmly believe we have strong evidence that we can succeed in China and India, the two largest markets, where we are starting to see accelerated growth as we progress through the fiscal year.

And I think as well just reflecting on China for a second to your question, Nik about price potential on a global basis; I mean that’s a market where we’re at a market level. The premium and super-premium tiers are more than 100% of the growth of the market, which continues to be very attractive in total. And our business as well in that market; David mentioned, Feminine Care is growing fastest at the premium portion of the market.

Hi, I had a couple of questions but they are short and discrete, probably that’s okay. First of all, the private label growth in the diaper market in the U.S., are you seeing that more in-store or is that an Amazon phenomenon? Number two, is the fact that you’re buying the Merck business, does that mean or imply or suggest that you won’t be buying a big piece of the Pfizer business? And then third question is just on the guidance for pricing to remain negative and aggregate for the next several quarters but the gross margin is supposed to be up in the fourth quarter if I heard that right. Does it seem strange to me not only given the negative pricing but all the commodity inflation we’re seeing. So can you explain from a productivity initiative perspective like what’s the light switch that goes on in the fourth quarter that’s going to get gross margins up?

On private label? Yes, private label what we are seeing is an acceleration of support. I am seeing more but actually in-store in some of our retailers and I think in part due to defending versus the lead on holiday launches that have continued to expand. And because of the importance of that consumer, both all the retailers recognized getting the young mom is important for the basket. And because of the profitability pressure, there is a lot of movement there. What we have to do in our doing is making sure our products are preferred and that’s the way best to win versus private label, and we’ve demonstrated that in Europe over a decade, and we’re going to have to sharpen and speed up in terms of some of the changes that we are making to make sure we win with the U.S. consumer. But it is, I think, a reaction to two dynamics both online and the discounter moves that occurred in the last year, but baby diapers specifically it’s disproportionate offline versus online. So Amazon, for example, is not a huge dynamic in that category other than as David said, it's influencing the behavior of other retailers. In terms of your question on pricing and commodity inflation and productivity and gross margin, pricing will remain a negative impact to top line for the next quarter, that's as far as we guided at this point other than I do expect it to turn positive sometime next year. The amount of the impact should lessen over time and one of the big drivers, Wendy, is simply that we annualize the big Gillette U.S. pricing reduction starting now. Also productivity as we've talked about tends to be back-loaded so increases as the year progresses and bring on additional savings. David mentioned, for example, the start of production in West Virginia, and so I feel reasonably confident that we can grow gross margins in the face of a continued price impact on the top line albeit at lower levels. Sorry, you also asked, this is the trouble with multipart questions, I forget. You also asked about acquisitions and as you will readily appreciate positively or negatively that's not a topic we comment on.

I've got some few potential questions on the table, but I want to come back to the pricing one. The narrative of premium tiers driving growth isn't really new nor is the narrative of you upgrading your portfolio and intervening into those premium tiers? And yet, it clearly results your price mix is eroding and if you look at Nielsen down the U.S., you sold more promotions in the U.S. last quarter than any time in the last five years. And obviously costs, your European competitors facing FX historically this has been fairly counter your pricing. So from the outside looking in, it seems like you're chasing a price value equation lower in the wake of all this disruption that you're talking about on the retail side, the competitive front as well, none of that disruption looks like it's poised to abate anytime soon. So why should we expect price to improve going forward? Why shouldn't we be assuming that this is sort of a new reality and maybe looking to address the business model and the cost structure more aggressively to adapt to this new reality?

I'd say there is some element of new reality there, Jason. I think that's a very valid point. And as David said, this is not business as usual, so we're changing everything to adapt to that new reality, whether it's entering segments that are new segments that also carry premium prices that are going fast like the natural segment. We talked about ever-increasing levels of productivity to be able to allow us to continue to invest while holding and building margins, $200 million to $300 million ahead of our going-in target this year, and I expect we will have a very aggressive plan next year as well. So we want to be prepared to win in a scenario where this is a continuing dynamic, but again in many parts of the world it’s a very different market reality and in those markets, we need to position ourselves to win with those consumers.

The only thing that has been reinforced is our recognition that changes need to be made, and the demands on our cost structure are more significant than in the past. This is real, and what we anticipated is not enough, so we must do more. I believe our strategy is sound, but bringing it to fruition and achieving the desired outcomes will require us to approach things differently than we have in the past. We are reviewing some of our decisions to ensure we are making progress within the timeframe discussed. This is currently happening within the company and will continue because we face challenges, whether in discounts or e-commerce, as retailers strive to capture their fair share of value in the industry. Success will favor those with products that resonate with consumers most, which will help improve margins. To achieve this, we will need additional investment, which must come from our cost structure.

And this also isn’t a dynamic that’s new. We’ve talked before about, for example, what happens when the discounter expanded in Europe and private label shares grew significantly as a percentage of the market in Europe over the last 20 years and our business has went through peace in valleys, and it wasn’t an easy adjustment, but we made the adjustments we needed to make, and our business has performed very well in that context building share in the vast majority of our big brands and categories in Europe over that period of time. That’s no guarantee for success with the current dynamic in the U.S. We certainly don’t approach it that way, but it's also a reason to believe that it can be done.

David, you went through a number of initiatives around baby, grooming, and a few other categories. Most of the moves there seemed to be around pricing and promotion, less around products. So as a market leader in the majority of your categories, why do you think that these are the right moves? And why do you believe they’re not potentially contributing to taking even more dollars out of these categories? And if I could just follow up on an earlier question on margins, a lot of pressure right now on gross margin obviously and those pressures seem to be growing maybe pricing less than July action slab but you’ve got negative mix et cetera that you’re dealing with. Do you think that there is enough productivity benefits next year to offset these to get gross margin expansion as we look at fiscal ’19?

Well first, we will make pricing adjustments where we’re losing consumer value, but that is not how we lead, that’s not our lead strategy. Our strategy is to drive consumer and actually trade consumers up and then in Baby Care the fastest-growing segments are pants and premium trait. What we have to do and are doing is innovating on those platforms, what has taken more time than I would want is to get the platforms in place in the cost optimize as we get winning products out. In pants, the product is winning, and we’re growing share in the category that’s growing fast. We’ve got a large inst all business on mainline across many countries and that segment is under tremendous pressure, and you are right, that part of the business is very price-sensitive. And as we get more and more of our portfolio in the premium and super-premium segments, we actually insulate ourselves from some of the issues that you’re talking about. The same is true on Gillette as we continue to trade people up than we have stronger profitability where we were missing and what required this intervention was we were losing too many users and over the long-term that is a real problem and so we had to strengthen our innovation on all three tiers, disposables, the mid-tier systems which are marked and the premium systems which are the fusion family. Each of those have innovations in the past; we only invented at the high end. The risk in that is you lose users, and losing users over time was the issue that lead to the intervention that on; but on categories our pricing interventions are meant to be very competitive. Our strategy to win is on premium, super-premium, superior products.

And on your question on margins, we're just in the beginning phases of putting our plans together for next year, Olivia, so I don't want to provide specific guidance, but our objective clearly will be to continue our margin growth on both the gross and operating margin line, and we will be just as we did this year looking to increase the level of productivity savings that we can bring to bear in that situation, and I expect as well if the commodity trends continue that there will be pricing in some categories and some markets to help offset this as well.

So because there are two topics M&A and obviously kind of your core business, maybe I'll indulge with the two questions. One is on the M&A, why is this the right time to do the Merck OTC deal in both Merck KG OTC deal? So many other things are going on it was not a cheap valuation as some would argue, it doesn't really move the needle. Was it really that the kind of Teva either pulling out or you guys are excited that JV doesn’t work is that really kind of precipitated this, is the first question? And then the second question, building on some of the things we've been talking about. I guess I'm wondering what plan B and you may say it's too early to talk about that, but look less as there is little bit drama but acquisition for sure and it comes up to be more smaller compelling pack of change if any guy do a really good job your market organization in terms of talking about change but why not if we can make much films about it and the actual numbers aren't good, right? Your pricing guides were down 2% and this is after quarters and quarters and quarters the accommodation and no price wars when we heard children that this question we really just ask this question. And by the way it only becomes positive it sounds like sometime in that fiscal year and towards the pricing but that doesn’t feel good. You said look we are 8 out of 10 are good, and two of them are not good into your categories but there is always through they are not good right. I mean it just seems like there is always something at P&G as some calorie combinations are doing well which impacts the whole business and it hasn’t come together we get that but I guess why will it now continue to be the question we ask and if you look at as that business is neutral but we have heard some form and that business is real for at least five years. So I guess what if the strategy doesn’t work, what if the world is actually too dramatically different HPC you start look like packaged foods for investors perspective what is Plan B. One of the things you guys think about as a record option as I just don’t innovate is it shakes your headcounts by 80% not 25%. Are you just going to have excess and we're going to have expected all of your earnings. I really want to get underneath this Plan B part as well please?

So, let me take this last questions and commentary there. First on is this the right time. This was a very good transition that Teva and you’re probably with the situation right now with Teva and our discussion with Teva, it was clear that the ongoing future of the JV needed change, and that’s been one of the strongest parts of the business. At the same time, Merck complements what we have and strengthens what is left once we separate from Teva. It gives us a better geographic footprint. It gives us some additional therapeutic areas. They are growing in the mid-to-high single digits. When you put the two together, and this transition, it gives us a stronger business in a category that’s got attractive margins and strong growth rate. It’s a positive mix for the Company. If you looked on a go forward basis, and these things happen when they happen and those opportunities and I am very pleased we got this done. I think it’s very positive for P&G shareholders in the future. And we don’t pick the timing on when all these things happen, there’s other parties involved. But when it does, you get it done, you get it done right. The second one is you have many, many questions and some comments and there just a comment on there’s always some business certainly recognize that and to our history, there’s always been some businesses up and down. We have two particularly large businesses that have had particularly meaningful perks. The changes over the last couple of years show a level of breadth that indicates P&G can win across a wide range of markets and a wide range of categories. I completely accept that we must improve to aggregate P&G company top, bottom and share; cash performance has been very strong. And we are making the interventions to do that. Will we look at more significant interventions and how we’re organized in taking cost out? We’ve already addressed that. Yes, we will in ways to create the productivity savings in order to make the interventions needed. I don’t think there is a broad HPC industry that can’t win or can’t generate value, I don’t buy that scenario. And I believe it’s just incumbent upon the leaders in the categories to come up with the innovation that does create value. And there’s periods you go through in a category that are difficult, and the winners are the ones that come out with fundamentals that are strong consumer-preferred products. And it has to be done even more than in the past in a way where the retailer sees category growth and margin growth. And that requires again additional productivity to fund it. And what we are doing is adjusting and in some cases going to have to do a meaningful additional effort to make that happen.

The Procter & Gamble-Teva joint venture will continue to operate through June, the end of our fiscal year; and the Merck deal will close outside of the fiscal year. So, there's no impact from either transaction on fiscal 2018 forecasts or results. Completion of the Merck consumer health care transaction is, of course, subject to customary antitrust reviews and approvals, and while we don't anticipate issues, it's difficult to predict precisely when that transaction will close. If we assume the Merck transaction closes at the end of the calendar year, we expect that we will add about $500 million to P&G all-in sales and will be neutral to organic sales, core earnings per share, and all-in earnings per share growth in fiscal 2019. It will be accretive after that, growing at a faster rate and the balance of the company at very attractive margins. We don't expect significant impacts to capital allocation choices, and obviously have full line of sight to the deal as we made the decision to increase the dividend by more than we did in the prior year.

Just want to go back to the shift in emphasis to private label on the part of retailers in certain categories. I actually get the fact that you see better margins for them, but it's always been brands that really drive traffic. Is that a commentary on the impact on this of innovation by branded players like yourself in certain categories? Or does the consumer simply value product performance differently today than they did three or five years ago?

I believe there isn't a significant difference in how consumers value private label products compared to branded ones. Private label has enhanced its quality, and we need to maintain our competitive edge to justify the price premium. It's as straightforward as that. When we execute this well, we have numerous examples where we've earned consumer trust, making the additional cost a worthwhile investment for them. I anticipate that private label manufacturers will continue to observe the large manufacturers and add new features accordingly, and we must be innovative in introducing fresh ideas and significantly improved performance. This is essential to the implementation of our strategy centered around meaningful superiority. In the categories where we've adopted this approach, we are seeing the desired top-line growth and market share increase, along with bottom-line growth that generates value in the higher single digits. While there are some areas where this isn't the case, which has impacted the Company, the strategy is effective when executed properly. The challenge lies in achieving this consistency across more brands and countries. While we do have some significant obstacles to overcome, we have been transparent about these issues and are prepared to take additional measures to ensure we have the resources and capabilities to make progress.