BRBR - Post Holdings: M&A Story Continues

2023-10-19 07:41:05 ET

Summary

• Post Holdings has grown through M&A, but trades at a high earnings multiple and leverage ratio.
• The company is a collection of packaged consumer food companies and aims to consolidate the troubled cereal category.
• Post divested its stake in BellRing Brands, which has seen strong share price appreciation, and has made further acquisitions in the pet food industry.

It is time to update a long overdue investment thesis on Post Holdings (POST) after my last take on the business which dates back to 2017 when the company acquired Weetabix in a $1.7 billion deal. That deal was a game changer, followed by many more M&A episodes which have actually grown the business and has driven share price appreciation (although Post does not pay dividends).

While Post does reasonably well versus peers, I am cautious amidst a relatively high earnings multiple and leverage ratio, making me cautious to buy the dip, with peers selling off to a greater extent here.

A Recap

Post is a unique consumer package company, relying on growth and M&A to drive returns to investors. In fact, Post is willing to go further, at times even issuing equity to finance M&A fueled growth.

Looking to play a role of consolidator within the already troubled category of cereal, Post was pursuing some M&A to build a combined market position for itself in cereals, outside of other operations in foodservice, other consumer brands and refrigerated retail products under the Bob Evans farms business. Essentially, Post is a collection of packaged consumer food companies under a roof, resembling the model of a private equity firm.

The huge $1.75 billion deal for Weetabix was aimed to compete with Kellogg's which has been struggling for years and recently decided to spin off the cereal business into WK Kellogg ( KLG ). This was the result of the tough market conditions with cereals under pressure amidst tough competition and health concerns.

Following the deal with Weetabix, pro forma revenues of Post Holdings were seen around $5.5 billion in 2017 on which EBITDA of $1.1 billion were expected. Pro forma net debt of $5.4 billion was high at nearly 5 times, all while 79 million shares granted the company another $7 billion equity valuation at $88 per share.

The resulting $12.5 billion enterprise valuation was equal to just over 2 times sales and 11 times EBITDA, as well as a very steep earnings multiple in the higher-twenties amidst the leveraged debt profile of the business (although cash flow yields were far better than earnings if we adjust for amortization charges).

After shares have seen a great run from its spin-off from Ralcorp in 2012 to levels around the $90 mark in 2017, I was a bit cautious, calling the story a "show-me" story.

And Now?

With shares of Post now trading at $88 per share, it seems that investors have not seen any returns, but that is not the case.

Post spun off its 80.1% stake in BellRing Brands ( BRBR ) in which 78 million shares of BellRing were spun off to investors in Post Holdings, equivalent to nearly 1.27 shares of BellRing for very share held in Post. With shares of BellRing trading in the mid-twenties at the time of the spin-off (the stake was valued at levels around the $30 per share mark). Actually, shares of BellRing have been on a tear so far in 2023, now trading at highs around $45 per share. On top of this came a 1.528 exchange ratio in 2022 as well.

This divestment of BellRing showed up in the 2022 results, as released in November of last year. Full year sales rose more than 17% on a comparable basis to $5.85 billion, but compared to the reported results in 2021 (ahead of the BellRing spin-off) they came down. Sales growth was aided by inflationary pressures as adjusted earnings rose from a very modest $1.14 per share in 2021 to still a very modest $1.68 per share number in 2022.

Given the nature of the divestment, in the form of a spin-off, net debt remained high at $5.4 billion, certainty as adjusted EBITDA for 2022 was stuck at $963 million, for a more than 5.5 times leverage ratio.

To provide comfort, Post saw EBITDA improve to $990-$1.04 billion in 2023, which at the midpoint implied some $50 million improvement compared to 2022. This results in pre-tax profit contribution of about $0.80 per share, although significant capital spending would be incurred as well. To tackle some of the debt load, Post itself sold 4.6 million shares of BellRing, although this raised just about $100 million in November of last year.

2023 - Another Year Of Dealmaking

In February of this year, Post announced the $1.2 billion purchase of select pet food brands from J.M. Smucker ( SJM ) in a deal set to add $1.4 billion in sales. The fact that the purchase price came in below the sales contribution looked interesting at first sight. To manage the increase in net debt, Post would fork out $700 million in cash to Smucker, while issuing 5.4 million shares in Post. These were used to pay for the remainder of the purchase consideration, with the deal closing towards the end of April.

In June, Post announced a new $400 million buyback program, and in August the third quarter results for 2023 were announced with sales up 18% to $5.05 billion as the assets from Smucker started contributing in the third quarter. Following no less than 15 adjustments to earnings, adjusted earnings came in at $3.71 per share in the first nine months of the year, which incidentally was close to the reported GAAP numbers, following numerous positive and negative adjustments.

On the back of these results, with earnings power seen around $5 per share, or even higher, the company hiked the full year EBITDA outlook to a midpoint of $1.19 billion. Post furthermore expects to moderately grow EBITDA in 2024. That is needed as net debt ticked up to $6.0 billion, a substantial amount at 5 times EBITDA.

In fact, Post announced another $235 million deal in October with the purchase of Perfection Pet Foods. The purchase of this private label and co-manufactured pet foods and baked treat products is set to contribute $25 million in EBITDA in the coming year, and while it is no game changer, it is a bolt-on deal.

Verdict

Shares of Post have held up quite well, as the 62 million (basic count) shares represent a $5 billion equity valuation in the low $80s. On top of this comes a bigger net debt load, manageable for a firm which is used to this like Post.

Deals meant that Post had been able to grow sales and earnings here, while the business is not burdened by steep dividend payout ratios. This all looks pretty decent, although that leverage is far higher and could become an issue if a real trade down occurs at Post as well, but so far the operational results look solid.

While I appreciate the M&A record of the business and the fact that it grows in a difficult operating environment, I am mindful of the fact that the company trades at a market multiple, while it torches along quite some debt. With both debt and earnings multiples higher than peers, I am cautious to get involved here just yet, although Post remains an interesting story to watch unfold here.

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