Good results from Reckitt, but are its shares worth buying?

Reckitt Benckiser's results for 2011 look pretty good. Sales and operating profits increased by 12% each to £9.4bn and £2.4bn respectively. It generated an impressive £1.5bn in free cash flow. The dividend was hiked by 9% to 125p per share. And the company's emerging markets and health and personal care divisions performed well.

But Reckitt is not growing like it used to. Underlying sales growth slowed to 4%, down from 6% a year ago. And trading in Europe is ominously weak.

Indeed, if you look at the resultsthrough the eyesof Michael Porter, you might take a different view to the one the market has taken.

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Who is Porter? Well, over 30 years ago, he devised a framework for analysing companies. He identified "five forces" that determine a company's profitability. And applying his analysis to Reckitt suggests the company could be in for a rough time ahead.

Competition is increasing

According to Porter, the less competition there is, the more profits a company can make. If a company makes lots of money, others will want to enter the market and have a slice of the pie.

Reckitt Benckiser is a classic case in point. Its Vanish stain remover products have dominated the market for a long time, but now face strong competition from Procter & Gamble's Ariel. Sales of Vanish have fallen, whilst Reckitt has also had to offer customers better deals by cutting prices. This means lower profits.

In a world where consumer goods companies struggle to grow, there is a risk that competition will increase. This would be bad news for shareholders.

The threat of own label products

Another of Porter's key pointers is the availability of substitute products. Just how easy is it for consumers to switch to different brands?

Reckitt has an enviable portfolio of leading household brands. When times are good, consumers are quite happy to put Finish dishwasher tablets, Dettol cleaners and Nurofen in their shopping trolleys. In times of austerity, consumers can't afford these products. They switch to supermarket own-label products and find out that some of these work just as well. Sales of these products may be lost forever.

Alternatively, they wait for promotions on branded products. (For example, I like Finish dishwasher tablets but I only buy them when they are selling at half their normal price). If more consumers adopt this attitude, Reckitt will make less money.

Indeed, the 1% decline in underlying sales in RB's European business may suggest that this is already happening.

Suboxone and generic competition

Last but not least, Porter looks at the threat of new entrants into a market. New entrants can decimate the profits of existing suppliers.

This is very true of Reckitt's very profitable pharmaceutical business. It has profit margins of 68% (down from 72% last year) and accounts for over 20% of Reckitt's total profits. Most of these profits come from one product, Suboxone Reckitt's treatment for opiate dependency.

This product is increasingly vulnerable to competition from generic drugs, which could see a large chunk of profits disappear. (Reckitt CEO, Rakesh Kapoor said this morning " I believe that generic versions to Suboxone tablets are a matter of when and not if").

Given the importance of Suboxone to Reckitt's total profits it raises questions as to whether any loss of income can be replaced.

New strategy highlights Reckitt's problems

More competition and slower growth mean that Reckitt has to do something different. It is going to channel its efforts into its core health and hygiene brands, with a big focus on emerging markets. It hopes that this will allow it to grow by 2% more than its markets and that profit margins will go up.

That all sounds fine, but there are a lot of headwinds just now.

The shares are not cheap

At 3,482p, Reckitt trades on 14.2 times 2012 consensus earnings estimates, and offers a prospective dividend yield of 3.7%. That doesn't look very appealing to us.

Recent results from consumer giants Unilever and Procter & Gamble tell us that life is getting tougher for these companies. They also don't have to replace a large chunk of profits from Suboxone.

Using the tools of Michael Porter suggests that there are lots of warning signs for investors. This morning's rally in the share price looks like a good selling opportunity.