Why This Foods Company (Still) has a Huge Upside

Piyush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

US drought might have ruined a major chunk of its crop yield, but it also presented an investment opportunity to capitalize on. Due to shortage of crop supplies, prices of crops including corn and fodder skyrocketed. Naturally many farmers weren’t able to feed fodder to their livestock, which in turn created a strain on meat supply. Eventually the prices of meat products appreciated by nearly 15% and companies like Tyson Foods (NYSE: TSN) are currently enjoying inflated margins.

Demand > Supply?

For the recent quarter, the company reported 9.2%, 3.6%, and 1.3% returns on the sale of pork, poultry (chicken) and beef, respectively. Over the last 6 months, poultry prices have appreciated by around 6% and a report by US Department of Agriculture (USDA) suggests that chicken prices will remain flat in FY13. This implies Tyson Foods could continue to enjoy higher margins, but its growth would be volume driven. Aware of this fact, Tyson Foods stacked 15% more inventory last quarter, in order cater some large orders.

Moreover, to counter the mad cow disease, Japan relaxed the norms for beef imports. Earlier, the country had set a restriction on the slaughter of cattle aged 30 months or less. But according to the new policy, the slaughter of cattle aged 20 months or younger is restricted. This move would not only increase the beef supply, but would also save breeding costs over the 10 month period. Moreover, cattle will have now less chances of catching diseases (due to time factor), which earlier had to be put down and booked as losses. Japan has a huge market for beef products, and the management expects higher revenue in the coming months.

Benefiting from Chicken Fiasco!

Tyson Foods supplies meat to retail chains including Yum! Brands (NYSE: YUM) and McDonald's (NYSE: MCD), which have been in a tough spot lately. Due to rising meat prices over the last 1 year, the net margins McDonald's and Yum Brands declined by 3.4% and 51.4%, respectively. Under an investigation carried out by Chinese authorities, it was found out that the chicken served by Yum Brands and McDonald's had high levels of antibiotics.

As a protest, many consumers decided to boycott KFC following which Yum! Brands warned investors about falling profits in 2013 and predicted a grim FY14. In order to repair their image, both the companies have stopped purchasing chicken from their notorious suppliers. This ensures one thing!

Chicken with less antibiotics will be in greater demand. Thus its prices would more likely head north and add margins for Tyson Foods. It is also possible that their dependence on the meat supplied by Tyson Foods increases, but that would purely be speculation.

Expanding Horizons

Last week, the company announced that its Mexican subsidiary would be acquiring Don Julio Foods, which manufactures and markets, flour and corn tortillas along with salty snacks. According to Wikipedia, “It is the eighth largest brand in the United States by volume and eleventh largest in Mexico.”  The management of Tyson Foods stated that the acquisition would bode well with its long term growth prospects. This would open up a new world for Tyson Foods, as it would now be in mass retail business. And once established, the company would have the option to expand its product line-up.

Conclusion

Shares of Tyson Foods have appreciated by nearly 60% over the last 6 months, yet it is currently trading at a forward P/E of only 10x. Its debt/equity ratio equates to a modest 40% while its P/S stands at an attractive 0.25. In my opinion, its shares are still undervalued, and there is still a lot of headroom to grow due to the mentioned reasons. I think Tyson Foods is worth a Buy Rating.


PiyushArora has no position in any stocks mentioned. The Motley Fool recommends McDonald's. The Motley Fool owns shares of McDonald's. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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