Kao Earnings: Profits Lifted by Pricing and Restructuring Benefits; China Cosmetics Remain a Drag

Wide-moat Kao again posted a robust set of second-quarter results, with sales up 6.8% (currency neutral 3.3% growth) year on year and core operating profits up 50% from a low base. Margin expansion of the domestic fabric and home care business and restructuring benefits of the diaper business lifted profits despite cosmetics headwinds in China. Management has raised the full-year operating profit guidance as expected, but the JPY 10 billion or 7.7% upward revision is somewhat above our projection. The new guidance is a touch above our forecasts after we finetuned our foreign exchange assumptions. The adjustment leaves an immaterial impact on our fair value estimate of JPY 7,600. Our projection that core operating profits will exceed the pre-covid-19 peak level in 2026, a year before management’s new target, is intact. We continue to view shares, trading at an 18% discount to our intrinsic value, as undervalued.