HRL - Hormel Foods Stock: Caution Just Caution

2023-10-11 11:05:36 ET

Summary

• Hormel Foods Corporation shares have been trading in a stagnant fashion and even declining, trading near the lowest levels in a decade.
• Earnings have slipped due to a big acquisition and inflationary pressure, leading to a cut in full-year earnings guidance.
• The company has faced a tough operating environment with inflationary pressures, a strapped consumer, and higher interest rates.

In April, I believed that shares of Hormel Foods Corporation ( HRL ) were seeing stagnation after the former growth darling had seen a few tougher years which included sluggish sales and declining earnings.

The company was off to a soft start to 2023, and I feared that a premium multiple, which was well deserved in the 2010s, no longer seemed deserved here. This observation and higher interest rates made me cautious, even as shares had been trading in a stagnant fashion for a long time already.

Share price sluggishness, and even declines, continued to be seen, and even as shares trade now near the lowest levels in a decade, appeal is still hard to find in Hormel.

A Look Back In Time

It is hard to imagine, but a $10 stock of Hormel in 2010 had risen to the $40 mark already in 2016 as the company made many nice bolt-on deals at the time, adding to the imagination of investors. Following that time, shares largely traded in a $40-$50 range. This was based on a $10 billion business which earned about $2 per share and paid out a nice $0.75 per share dividend.

Despite the stability, earnings slipped by 2020 to levels around $1.50 per share, as the company made a big $3.35 billion deal to acquire the snack nuts portfolio Planters business from overleveraged peer Kraft Heinz ( KHC ) in 2021.

The deal was set to boost earnings to return to the $2 per share mark, with the original 2022 outlook calling for sales between $11.7 and $12.5 billion, with earnings seen between $1.87 and $2.03 per share. The issue is that inflationary pressure meant that sales were moving towards the higher end of the range, but earnings were under pressure. Moreover, after the dividend was hiked for the 57th year in a row, a $1.10 per share dividend pushed up payout ratios, as a $2.2 billion net debt load meant that leverage came in at 1.4 times based on $1.6 billion in EBITDA.

The company guided for 2023 sales between $12.6 and $12.9 billion, which looked very modest considering inflationary, with earnings of $1.83-$1.93 per share falling even short of the original guidance for 2022. Given this, a mid-twenty multiple at $45 by December 2022 looked very expensive, certainly as many underlying businesses of Hormel are tied to meat, which raises long-term concerns on the positioning of the firm.

By April, shares were back down to the $40 mark, as this came after first quarter results were soft. Sales fell 2% to $2.97 billion, with volume trends much worse than reported sales declines. Consequently, earnings fell by four cents to $0.40 per share, as the company saw net debt tick up to $2.7 billion following a $411 million investment in Garudafood, which raised some questions as well. Following the softer start to the year, the company cut the full year earnings guidance to $1.76 per share.

More Stagnation

Since April, shares have fallen another 10% to $36 per share here amidst a tougher operating environment, which still includes inflationary pressures, a strapped consumer, and higher interest rates.

In June, Hormel posted a 4% fall in second quarter sales to $2.98 billion, with volumes down 5% and change being relatively modest. This resulted in margin pressure, as slightly higher interest rates meant that earnings fell another eight cents to $0.40 per share, with earnings so far only coming in at $0.80 per share. Despite the tougher quarter, the company maintained a full year sales guidance which called for 1-3% full year sales growth, with earnings seen between $1.70 and $1.82 per share.

On the final day of August, Hormel reported a 2% decline in third quarter sales to $2.96 billion, as the company was hit by some dis-inflationary pressures with volumes up nearly 2%, showing a trend which is wildly divergent from the typical composition of growth seen by other consumer businesses, typically seeing declining volumes and higher pricing.

Amidst this poor composition of growth, at least from a margin perspective, the company managed to keep adjusted earnings flat at $0.40 per share. Given the dynamics and market conditions, the company cut the full year earnings guidance to $1.61-$1.67 per share, as the fourth quarter is typically a bit stronger on a seasonal basis.

Net debt is reported around $2.8 billion which, amidst falling profitability metrics, means that relative leverage ratio approach 2 times here, as the $1.10 per share annual dividend keeps resulting in a higher payout ratio. Note that higher payout ratios have meant that a traditional net cash position of Hormel has resulted in some debt taken on (due to the Planters deal as well, of course).

What Now?

Trading around the $36 mark, shares are by no means cheap at 22 times earnings, mostly because earnings have taken a continued beating here. Even if the company can return to $2 in earnings per share power, the multiple at 18 times is not necessarily cheap.

This stands in sharp contrast to many peers which trade at much less demanding multiples. Quite frankly, I am bit puzzled behind the trend of higher volumes and lower pricing, which contrasts to the rest of the industry, although Hormel has a large and volatile meat business as well. This raises some long-term concerns, and given the continued underperformance, I find it rather easy to avoid Hormel Foods Corporation shares here.

For further details see: