Will the Sun Keep Shining for Annie?
Gerelyn is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
California's hopes for a revised law dictating labeling on genetically modified organism (GMO) foods were squashed when voters failed to demonstrate enough support for Proposition 37 on November 6. California residents, many of whom are disappointed, are going to continue to fight for more transparency in the way that foods are grown prior to being consumed, and residents in Washington state are beginning to stage a push for formal policy surrounding GMO's, as well. Natural foods company, Annie's (NYSE: BNNY), provided an interesting disclosure about the topic in an S-1 filing.
By law, Annie's cannot permit the use of GMOs in its organic food items. Nonetheless, the company discloses in its 10-K filing that "unavoidable cross-pollination" can occur at its suppliers, which would unintentionally introduce GMOs to its organic food products. GMOs can also be hard to identify, but if they are detected the company runs the continual risk of having to replace suppliers or manufacturers.
Another separate but related risk that Annie's runs is being banned from using annatto, food coloring made from achiote seeds that is used in the company's organic macaroni and cheese products. So far, the FDA has not come knocking at Annie's door about that. If they show up, however, consumers seeking an orange product could boycott Annie's mac-and-cheese.
Investors are not worried. Since Annie's IPO, which was priced at $19 per share, the stock has advanced nearly 90 percent (including performance in the week of November 5, when the markets were retreating.)
High valuations are not uncommon in the food sector, but Annie's price-to-earnings ratio is especially compelling. According to calculations performed by Barron's, Annie's is trading at 55 times earnings estimates for the company's fiscal 2013. Continued stock gains are contingent on the company's ability to grow its earnings as expected, Barron's points out. If that's true, the slightest disruption to this well-oiled machine's food sales could be damaging, which returns the spotlight back to the company's risk factors.
The push for clearer labeling on GMO food items has been supported by health and organic food companies, such as United Natural Foods (NASDAQ: UNFI). No doubt, the blocking of Prop 37 was a direct blow to company executives there who have been pushing for "full disclosure" relating to food labeling and GMOs, according to the company's website. The stock's price-to-earnings ratio is 28 percent based on trailing 12-month earnings.
A lack of legislation surrounding food labeling and GMOs does not appear to have the potential to hurt organic food companies as much as the implementation of such labeling could benefit them. If customers can clearly distinguish between GMO and non-GMO products at the grocery store, they may be more inclined to go with what United Natural characterizes as safer items. For a company with such a heavy reliance on one customer, it's no wonder why United Natural is seeking to distinguish itself in every way possible.
In fiscal 2012, United Natural generated 36 percent of revenues from Whole Foods (NASDAQ: WFM) The company admits in its 10-K filing:
"..if Whole Foods Market is not able to grow its business, including as a result of a reduction in the level of discretionary spending by its customers, our business, financial condition or results of operations may be materially and adversely affected." (United Natural Foods' 10-K filing.)
If a company's fate is going to rest with another businesses ability to perform, Whole Foods is not a bad way to go. Whole Foods appears to be strategically planning for the implementation of some GMO labeling legislation. It plans to open a mega-grocery store in the western portion of Seattle, Washington in 2015, where the push for GMO policy is gaining traction.
In its fourth quarter, Whole Foods reported as-expected top-and-bottom line results, but for the week of November 5th the stock lost more than 6 percent amid weakness in the company's same store sales stemming from the impact of Hurricane Sandy in the Northeast.
Despite its high valuation, the sun has hardly set on Annie or other organic-food companies. Implementing the type of change that Proposition 37 would have introduced is no easy task, even in a health-conscious state like California. Meanwhile, as long as natural food distributors are able to navigate the food-inflation waters and keep distinguishing themselves from more traditional food companies with or without the help of public policy, their stocks are likely to continue to benefit from an increasingly health-conscious population.
Know What You Own
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GerelynT has no positions in the stocks mentioned above. The Motley Fool owns shares of Whole Foods Market. Motley Fool newsletter services recommend Whole Foods Market. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
