Which Food Stock to Buy and Which to Hold
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
In general, I am bearish on the food and agricultural market. From saturated competition, to low margins, there is always a lack of upside. However, the key in investing is to base your views relative to those of the market. Right now, it appears that the market has under-appreciated firms that are targeting emerging markets, while overvaluing businesses that are targeting domestic ones. Below, I review three companies to prove my point.
On Oct. 3, Kraft Foods Group officially spun off Kraft Foods, the North American grocery business that includes Maxwell House coffee and Philadelphia cream cheese. Since the transaction was completed, Kraft Foods has gained 2.2%, while Mondelez fell by roughly the same amount. Mondelez International holds several popular snack business, including Cadbury, Tang, Trident, Wheat Thins, Ritz, Nutter Butter, Newtons, Nilla, Cote D'Or, and Chips Ahoy!, among many others.
Ultimately, I find Mondelez to be more substantially undervalued and attractive in the long-term. Mondelez trades at 13.7x past earnings, versus 14.6x for Kraft. In addition, Mondelez has exposure to international markets that are growing at breathtaking rates. Jefferies, however, has argued that Kraft will see better-than-expected revenue production and a dividend hike.
Business looks so attractive that Mondelez's European division recently decided to buy Danone's Italian snack business for an undisclosed sum. The CEO recently went on CNBC to tip off investors that the company will pursue acquisitions in emerging markets, which will enable Mondelez to establish a foothold for later penetration. She particularly mentioned making "tack-on" buys to transition the snack business from one market to the next. It is this kind of incrementalist expansion to high-growth segments and markets that attracts me to the business.
Analysts forecast low single-digit revenue growth for Kraft, while the sky really is the limit for Mondelez. Given that the multiples are currently cheaper in the latter, I believe there is reason for a substantial market correction. If you are looking for income support, the conventional wisdom has been to go with Kraft and its grocery business. The dividend yield comes out to around 4.2% based on a $2 per share distribution, which translates to a payout ratio greater than 75%. The riskier nature of a Mondelez investment has kept down multiples, but the fundamentals looks good in the long-term.
ConAgra (NYSE: CAG): A "No-Go" Situation
American food producer ConAgra trades at a respective 18.5x and 12.7x past and forward earnings, which makes it a relatively expensive stock. Although the 3.6% dividend yield and 0.7 beta is compelling, low annual EPS growth forecasts of 7.2% are reason enough to stay away. As it stands, analysts have rightfully rated the stock around a "hold."
Moreover, growth forecasts of 7.2% may likely prove to be too bullish, mainly because over the last 5 years, the company grew EPS by only 3.3% annually. Is more than a doubling in store? Even if ConAgra manages to grow EPS by 7.2% annually, 2016 EPS would come out to only $2.70, which, at a 17x multiple, translates to a future stock value of $45.90. Discounting backwards by 10% yields a present value roughly in-line with the current market price and below the $30 price target.
On the other hand, the company did report solid 1Q 2013 results to drive the stock to its 52-week high. EPS grew by $0.31, which was a dramatic 42% y-o-y improvement. Pricing increases and improved demand helped to improve returns in the Consumer and Commercial lines. At the same time, margins expanded to record levels of 11.1%, which was 670 bps better than last year. Although this momentum is impressive, the past is not a guaranteed indicator for the future. It seems, however, that the market is assuming that it pretty much is. Accordingly, I recommend holding out for now.
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