THS - TreeHouse Foods: Muddling Along

2023-10-13 13:37:27 ET

Summary

• Last year, TreeHouse Foods, Inc. sold a majority stake in its meal preparation business to simplify operations.
• Long-term struggles continue due to complex past acquisitions and declining margins.
• Recent divestments aim to reduce leverage and complexity, but questions remain about still elevated leverage ratio.

Over the summer, I believed that TreeHouse Foods, Inc. ( THS ) was doing a bit better, yet I still had many questions. This came after the company moved to simplify the business last year, selling a majority stake in the meal preparation business, all while 2023 started on an apparent solid note.

Despite this, leverage was still a bit high, earnings were still highly adjusted, and a bolt-on buy-side M&A transaction surprised me somewhat. Later in the summer, the company seen a bit of a tougher second quarter, and announced a small divestment as well.

This is welcomed, but the overall stress on the food complex has taken many stocks of producers down with it, although consumers trading down should in theory help private label producers like Treehouse, as I am not buying this dip yet.

Long-Term Struggles

Since TreeHouse Foods acquired the private brands business from ConAgra in 2015 in a $2.7 billion deal, it was the (leverage) complexity of the deal which cast a shadow over the business.

After initial enthusiasm on that deal, a $100 stock in 2016 has only seen downside, trading at just half those levels over the summer. TreeHouse obtained a huge discount for the Conagra assets which transacted a couple of years before as well, but nonetheless it has created a long-term drag on the business.

Originally designed to create a $6 billion business in 2015, TreeHouse posted 2021 sales at $4.3 billion early in the year 2022. 2021 earnings fell from $2.73 per share to $1.19 per share, as the shrinking margins hurt the business in a huge way even as net debt had come down to $1.6 billion, but this came as EBITDA numbers melted to $400 million, still resulting in high leverage ratios.

The business was comprised out of a $2.7 billion meal preparation segment which posted segment margins of 10%, as well as a $1.6 billion snacking & beverage business which posted similar margins, of course ahead of corporate overhead. In the summer of 2022, TreeHouse sold a majority stake in the meal preparation business in a $950 million deal, set to reduce leverage quite a bit.

The pro forma business should see sales fall to $2.5 billion with EBITDA seen at $330 million, yet leverage was set to come down a great deal as well. In February of this year, TreeHouse posted $3.45 billion in sales for 2022, up half a billion due to inflationary pressures. Adjusted for many items, adjusted earnings came in at $1.17 per share, but the meal preparation business still contributed for a big part of the year. Nonetheless, the company guided for 2023 sales to grow by 6-8%, with EBITDA seen at midpoint of $355 million.

First quarter sales for 2023 rose by 15% to $895 million, with adjusted earnings reported at $0.68 per share, as net debt ticked up to $1.42 billion in typically a softer quarter from a working capital conversion stance. With still a leverage overhang, I was a bit surprised to learn that the company acquired the Northlake Texas Coffee facility from Farmer Brothers in a $100 million deal this summer.

With the company on track to earn $2.70 per share this year and shares trading in the $50s during the summer, earnings started to provide some fundamental support, but these were adjusted earnings, and there were some leverage concerns, of course.

Coming Down

With shares trading in the low fifties over the summer, shares have fallen to the $39 per share mark as the food complex at large has seen tough times. This comes amidst concerns of investors among consumers trading down amidst tougher economic times, as well as the concern of weight-loss drugs on demand.

In August, second quarter sales of $844 million rose by 4% on the year before. The company posted adjusted earnings of $0.42 per share, down sequentially but up meaningfully from earnings of five pennies in the same period last year. Like so many food companies, it was the composition of growth which was very poor, with pricing still up 11% in the quarter with volume and mix effects hurting sales by around 7%.

Net debt came in at $1.58 billion, mostly due to the closing of the Farmer Brothers deal and poor working capital conversion. Adjusted EBITDA came in at $175 million in the first half of the year, although the company hiked the full year EBITDA guidance to $365 million reflective of the latest deal, with leverage now seen at 4.3 times.

In September, TreeHouse Foods announced that it had sold its Lakeville manufacturing facility and snack and bars business to John B. Sanfilippo & Son ( JBSS ) in a $63 million cash deal. While TreeHouse did not report numbers for the business, the activities were not expected to be EBITDA positive this year, with the deal closing in September yielding net cash proceeds of $61 million.

The buyer communicated a $105-$120 million revenue contribution of the addition for the remainder of the year, suggesting up to $150 million in lossmaking revenues could leave the door.

The deal is not going to be a game changer, but will be positive for earnings, leverage and is set to reduce complexity, but is also an admittance that TreeHouse could not turn the business itself.

What Now?

After a more difficult second quarter, I see TreeHouse Foods, Inc. earnings power at $2.50 per share this year. Quite frankly, shares have held up well compared to many peers.

The latest bolt-on divestment is welcomed, but TreeHouse Foods, Inc. shares are not dirt cheap yet at 16 times, as leverage overhang remains. The question is if and how much the deal could reduce leverage below 4 times. With the selloff in other parts of food being more pronounced, including less leveraged players, I find it easy to keep my buying power dry here.

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