Morningstar | Limited Differentiation in the Hygiene Market Has Prevented Essity from Forming an Edge.
We think Essity faces obstacles to amassing brand power in its portfolio. Competition from both branded and private-label offerings in the global personal care and hygiene category, plus low barriers to entry and a lack of switching costs, hampers Essity's ability to form the entrenched retail relationships needed to secure a competitive edge. We assign Essity a no-moat rating.We believe Essity's retail relationships are weaker than its largest competitors'. It has fewer high-profile or billion-dollar brands, which could put the firm at a disadvantage if retailers were to rationalize stock-keeping units; this is consistent with our view that the firm lacks defensible competitive advantages. For the most part, the company does not directly distribute products to retailers, which further limits its ability to guarantee shelf space for its products. Additionally, Essity has not been able to develop brand recognition or economies of scale in its more commodified businesses, such as consumer tissue (38% of 2018 revenue). As evidence, its consumer tissue adjusted operating margin (7.4% in 2018) remains materially below that of narrow-moat Kimberly-Clark (15%).Still, we believe Essity will be able to strengthen its bottom line despite these competitive headwinds, and we appreciate its renewed strategic focus on higher-margin valued-added categories in personal care, including incontinence, feminine care, and diapers, where we estimate private-label penetration remains under 10% globally (compared with above 35% for consumer tissue). The company has exited markets in which it hasn't been able to establish a leading position in these categories, which has kept profitability intact as it expands abroad. In the consumer tissue segment, we expect Essity's ongoing efforts to trim lower-margin private-label manufacturing contracts and improve production and supply chain at its tissue plants to be accretive to operating margin and help offset pricing pressure from private-label alternatives or discounting by peers.
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