In the past conference call, Diamond Foods, Inc. DMND, announced a new business strategy going forward to boost its net income. While the company historically pushed hard for sales of products like Kettle potato chips at the expense of slim profit margins, the snack food giant has since slashed product lines and scaled back discounts. But is this new strategy enough to turn around their declining share prices?
Analyst Maintain Underperform Rating
Zacks reported last week that the analyst group maintains a long-term underperform recommendation on Diamond Foods. Zacks cited the reason for its rating reason os due to declining estimated sales for the second half of fiscal 2013, which are expected to decline at a faster rate than in the fall. Diamond Foods' second-quarter earnings of 5 cents managed to meet the Zacks Consensus Estimate, but its revenue of $220.8 million fell short by $20.2 million.
Following the release of the second-quarter results, the Zacks Consensus Estimate for fiscal 2013 fell 45.0% to 11 cents per share. The Zacks Consensus Estimate for fiscal 2014 has also declined significantly by 20.5% to 62 cents per share.
Revenue fell 12.8% in the six months ended January 31, and further a sharper decline is expected in the six months through July. Additionally, competition continues to be intense. For example, PepsiCo, Inc.PEP Frito-Lay North America division, saw revenue and volume rise 5% in the fourth quarter, suggesting it kept prices roughly flat.
Industry data suggest Diamond's pricing changes have hurt sales. Prices for the company's retail products rose 11% in the past 12 weeks, when volume declined 21.5%, according to Nielsen data cited by analysts at Jefferies.
Walnut supply represents another constraint on revenue. Some growers have abandoned Diamond since the scandal: Payables to growers on January 31 were just $98 million, down from $141 million a year earlier.
Constrained Balance Sheet
While Diamond could boost its brands with new products and more spending on marketing, its balance sheet represents a serious constraint. The company has to generate enough cash flow to offset its highly leveraged balance sheet that might restrict its strategic initiatives. The $225-million loan, requires other debt to remain at or below 5.4 times earnings before interest, taxes, depreciation, and amortization for the 12 months ending October of 2013.
Diamond's other debt totaled $404 million based on the most recent disclosures of $175 million drawn on a credit revolver, a $217 million term loan, and $11.6 million borrowed by its Kettle division. FactSet expects that the company will need another $25 million in coming months to pay growers for the last harvest, and analysts expect free cash flow to be slightly negative in the next two quarters. Under this scenario, unless Ebitda improves from last fiscal year's $79.4 million, leverage could near that limit of 5.4 times.
Stock's Price Valuation
Diamond's stock isn't cheap. It trades at an enterprise value, including net debt of 12 times last fiscal year's Ebitda. Although it may be in-line with peers, the company's shares deserves a discount given the company's shrinking revenue and uncertain profitability. Further, the stocks expected earnings for 2014 is $0.53, which gives the company a forward P/E of 29.5 much higher than the industry average.
Although the company's stock may appear cheap due to a decline of almost 30% in the past year, the stock's valuation is in fact overpriced. Further, the company's declining revenue and constrained balance sheet do not put investors at ease, which might explain the heavy short interest at 29% float as of 3/28/13. After Zacks cited many fronts which challenge the company and its outlook, the analyst group stated in the report:
We fail to see any significant catalyst that could drive the shares in the near term.
I currently maintain an underperform rating on the stock with a target price of $15.00.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.