This Food Stock is Sailing Smoothly
Gaurav is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Packaged foods will never be the "golden child" of the consumer staples space, but I think sentiment on the group is now overly negative. Inflation is turning out to be less severe than many feared, the restructuring charges provide sufficient overhead cost savings to cushion the bottom line, and volume is showing signs of a bottom now that food companies are lapping last year's massive price increases.
ConAgra Foods (NYSE: CAG) recently announced solid Q2 results with quarterly EPS (excluding items) of $0.57 beating the consensus estimates by $0.02. The company has now surpassed analyst estimates for four quarters in a row. ConAgra's strong earnings beat adds to the lengthening list of packaged foods companies like General Mills (NYSE: GIS) that have beat expectations in their fiscal second quarter. While General Mills is focusing on international acquisitions, ConAgra is growing with strategic acquisitions in food categories. With easing input costs both these companies will be looking for some margin expansion and continued bottom line strength. ConAgra even went so far as to raise its EPS guidance. The company now expects the fiscal 2013 EPS to be at least $2.06 as compared to its earlier forecast of $2.03-$2.06. Although ConAgra’s EPS growth moderated in Q2 as compared to Q1 as carry over pricing in the Consumer Foods segment lessened, it is encouraging to see that the company continues to perform well despite the challenges faced by US food sector as a whole.
Since ConAgra’s failed bid for Ralcorp Holdings (NYSE: RAH) a year ago, the company has followed through on a renewed strategy that focused on growth through acquisitions including core adjacencies, international growth, and private label. In less than one year, the company completed 6 acquisitions including National Pretzel (November 2011), increasing its ownership share of AgroTech Foods in India (November 2011), Del Monte Canada (March), expanding its frozen breakfast portfolio with Odom’s Tennessee Pride (May), the addition of Kangaroo Brands pita chips (May), and Bertolli and P.F. Chang frozen brands from Unilever (August). Unsurprisingly, the addition of these businesses is expected to contribute significantly to the company’s growth, with management noting at the time the company provided initial F2013 guidance that approximately half of the 6-8% EPS growth would be attributed to acquisitions.
Add to that the recently struck deal to acquire Ralcorp and we are looking at one of the largest North American packaged food companies. Also, ConAgra is set to become North America's largest private-label food business with total private labels sales expected to cross the $4.5 billion mark. Consumer dynamics have changed since the recession and growth in private-label food is expected to continue to outpace growth in branded food. Thus, Ralcorp's large private-label business will be a great addition to ConAgra’s already vast portfolio of products.
ConAgra’s increased its consumer marketing spending by 18%, with plans for double digit increases for the full year, in support of good new product innovation. I see this as a driver of improved volumes over the course of the year, as the firm’s brand investments begin to take hold, and as year over year comparables in the Consumer Foods segment improve with the lapping of last year’s price increases.
ConAgra expects operating cash flow in excess of $1.2 billion for the fiscal year, excluding any 2013 cash flow from acquiring Ralcorp. Though the company won’t be repurchasing its shares in order to improve its high debt to equity ratio, an impressive dividend yield of 3.40% is hard to overlook. Let’s compare the valuation metrics (forward PE and P/S ratio) and dividend yield of ConAgra with General Mills and H.J. Heinz Company (NYSE: HNZ).
We can see that all these companies have a similar yield profile. However, ConAgra is trading at the lowest forward PE and P/S ratio. ConAgra’s 15% discount to Heinz looks unjustified to me. Although Heinz is focusing on emerging markets and a strong international growth opportunity but the company also remains susceptible to volatile macro environment and unfavorable foreign exchange.
To conclude, I believe the worst is behind the company and management has done a good job in increasing the company’s advertising budget and new product innovation, which has boosted sales growth trends at the company. Moreover, management has committed to pursue growth through strategic acquisitions, and also has undertaken restructuring efforts aimed at reducing the complexity of the company and improving its efficiency. All told, as a result of these factors, ConAgra appears poised for earnings growth. I recommend buying this stock
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