2023-08-22 06:55:48 ET
Summary
- I have a positive opinion of Post Holdings' capital allocation strategy.
- In my view, POST is able to focus on both capital return and capital investment, while managing the company's credit risks.
- Post Holdings' shares are assigned a Buy rating, considering the potential value creation associated with its balanced capital allocation approach.
Elevator Pitch
My Buy investment rating for Post Holdings, Inc. (POST) shares stays unchanged. Earlier, I assessed POST's addition of new pet food brands to the company's portfolio and its efforts to leverage on the food market's latest trends in my April 24, 2023, article .
With the current update, my focus is on Post Holdings' capital allocation activities such as debt retirement, share buybacks and acquisitions. POST's capital allocation approach implies that it is able to strike a good balance between reducing financial risks (deleveraging), stock price support (share repurchases), capitalizing on new growth opportunities (M&A). Therefore, I maintain a Buy rating for Post Holdings.
Deleveraging
POST disclosed at the company's Q3 FY 2023 (YE September 30) earnings briefing that it "retired $50 million of our debt" in the recent quarter.
There are two key metrics worthy of note relating to Post Holdings' deleveraging efforts.
The first key metric is POST's net leverage or net debt-to-EBITDA ratio. Post Holdings' pro-forma net leverage metric was 5.1 times following its purchase of multiple pet food brands from The J. M. Smucker Company (SJM) in late April this year. But POST's net debt-to-EBITDA ratio had subsequently declined to 4.8 times at the end of June 2023 as a result of the company's debt retirement. More importantly, Post Holdings remains on track to meet its target of lowering its net leverage metric to three times (source: Q2 FY 2023 investor presentation ) or below in five years' time with its progressive deleveraging efforts funded by internally generated cash flow.
Post Holdings' second noteworthy metric relates to whether the company retired part of its debt in a value-accretive manner. According to the company's management commentary at its third quarter results call, POST repurchased around $50 million worth of its outstanding notes at "an average discount of 13%." This implies that POST isn't deleveraging without regard for value. Instead, the company capitalizes on opportunities emerging from the market's mispricing of its debt to achieve its deleveraging target.
Share Repurchases
Post Holdings spent $250.5 million buying back 2.9 million of its shares at a mean purchase price per share of $86.91 in the first nine months of fiscal 2023, based on its disclosures in its Q3 FY 2023 earnings release .
I have a positive view of POST's substantial share buyback activity for two key reasons.
One key reason is that share repurchases help to protect the downside for Post Holdings' shares, and the stock remains undervalued at current price levels. In the company's Q2 FY 2023 investor presentation, POST stressed that its approach is to utilize "aggressive share buybacks" as a means of "supporting share price" and returning shareholder capital. Separately, the market is currently valuing Post Holdings at consensus forward next twelve months' normalized P/E and Enterprise Value-to-Revenue multiples of 17.4 times and 1.48 times (source: S&P Capital IQ ), respectively which I deem to be attractive. This suggests that Post Holdings' buybacks at current price levels are value-accretive.
The other key reason is that Post Holdings' share repurchases have enabled the company to reduce the share dilution impact relating to the purchase of SJM's pet food brands. Specifically, POST repurchased 1.9 million of its own shares in the recent Q3 FY 2023, which is roughly equivalent to 60% of the shares the company issued to finance the M&A deal involving The J. M. Smucker Company's selected pet food brands.
POST still has the potential to execute on further share repurchases in the quarters ahead to minimize share dilution from M&A and support its stock price. The company's remaining share buyback authorization as of end-July was still a meaningful $278.5 million.
Mergers & Acquisitions
Last but not least, POST isn't ignoring inorganic growth opportunities even as it allocates capital to deleveraging efforts and share buybacks. With my prior April 24, 2023 write-up, I touched on Post Holdings' earlier $1.2 billion M&A deal associated with the purchase of certain pet food brands from SJM.
At its Q3 FY 2023 results briefing, Post Holdings acknowledged that "we are looking at things now", in response to a sell-side analyst's question regarding POST's "general appetite for other opportunistic transactions." It is clear that POST is ready to engage in M&A again in the near term.
There are specific factors that allow Post Holdings to be successful in the area of inorganic growth.
One factor is that POST has become more competitive with its traditional rivals in M&A transactions. POST is of the opinion that it has "a cost of capital advantage" over private equity firms considering the current interest rate environment, as per the company's management commentary at the recent earnings briefing.
Another factor is that the company is specifically focusing on off-the-radar acquisition targets. As an example, Post Holdings indicated at its third quarter earnings call that there was a "paucity of competition" for The J. M. Smucker Company's pet food brands.
Concluding Thoughts
POST has chosen to adopt a balanced approach to allocating excess capital, which I think is the right way to create value for its shareholders. As such, I have retained my Buy rating for Post Holdings.
For further details see:
Post Holdings: It's All About Capital Allocation