Sysco Corporation (NYSE:SYY) recently announced a quarterly dividend of $0.29/share. Sysco has a long history of dividend payments. The company has been consistently increasing its dividends since 2001. In the past ten years, it has increased quarterly dividends by 123%, and in the past five years, dividend growth was standing at 20.83%. Here, we can observe that dividend growth has remained slow in the past five years compared to the previous five years before 2008. Slow growth in the dividends represents that the company has been facing challenges in growing earnings and dividends.
Sysco is operating in a food distribution industry. Over the past three years, we have observed challenges for all the companies that are offering consumer food products, including operating in the restaurant industry, the food distribution industry, or the packaged food industry. The entire consumer defensive sector is facing headwinds in generating top-line and bottom-line growth, which is further hindering their dividend growth. This is due to the general economic environment and consumer confidence. People continue to spend their disposable incomes in a more disciplined way, which has added to a slow rate of improvement in the food service market as of late. Secondly, the entire sector is facing fierce competition, which heated up with the emergence of private labels over the past few years.
Both these factors forced companies to offer competitive prices to keep their market share intact. However, with low prices, their margins went down and costs went up, which depressed their bottom-line growth. Further, these companies need to launch innovative products and offering, while finding new markets and working on acquisitions and merger. In this article, I looked at Sysco's business strategy and financial situation to gauge its ability to generate profits and returns for investors.
Where Sysco Stand?
Sysco Corporation is a leading food distributor to healthcare and educational facilities, restaurants, lodging establishments, and other food service customers in United States, Canada, the Bahamas, the Republic of Ireland, and Northern Ireland. Looking at these circumstancing, Sysco has revised its business strategy. The company is looking to transform its business operations. To do that, Sysco has been working on five key plans. First, it is looking to enhance people's experiences that are doing business with Sysco. Secondly, the company is looking to improve productivity in all areas of business from production to distribution while reducing costs. Furthermore, it is looking to expand its product portfolio by following a customer-centric innovation program. In addition to expanding product offerings, it is looking to capture market shares in new markets. Finally, the company's business strategy concentrates on developing and effectively integrating enterprise-wide talent management process.
In order to expand its portfolio and market share, the company recently announced a proposed merger with U.S. Foods, which provides frozen, fresh, and dry foods to approximately 200,000 food service customers, including hotels and motels, privately-owned restaurants, and local and national chain restaurants. If the merger takes place successfully, the remaining company will be named Sysco and will have the capacity to generate around $65 million of sales. At the moment, in order to generate growth in sales, Sysco is working on category management initiatives by using customer insights and marketplace data to alter pricing and product innovations. Further, Sysco is working on initiatives to improve operational efficiencies and reduce its operational costs.
Recently, it announced third-quarter results with a top-line sales growth of around 3.2% while the bottom-line growth remains at -4.2%. The company has generated similar results in the past nine months with the top-line growth of 4.3% and growth of-4.2% in earnings per share. Strong top-line growth represents that the company growth initiatives are working, and it is following its business strategy to boost sales. However, negative bottom-line growth illustrates that market dynamics are challenging, and the company is struggling to overcome from those. Nevertheless, Sysco is working on cost cutting to enhance margins, but I am not expecting significant bottom-line growth as the market dynamics are still challenging.
Amid negative growth in earnings, Sysco's cash generating potential remains very strong. In the past nine months, its operating cash flows increased by 11.7%, and free cash flows were up by 21%. Still, its free cash flows are not adequately covering its dividend payments. In the trailing twelve months, Sysco's free cash flows are standing at $483 million when dividends payments are at $493 million. This clearly shows why the company's dividend growth slowed over the past years. On the other hand, its payout ratio based on income increased from 49% in 2010 to 70% in the trailing twelve months. This demonstrates that the company's net income is falling, and the dividend payments are increasing. In this situation, I think the company has very minimal room for future increases.
I believe Sysco is heading in the right direction as it is not finding difficulties in generating growth in sales. However, expense management and business transformation to achieve higher operational efficiencies are key steps towards its future performance and dividend growth. I see proposed merger with U.S. Foods as a big opportunity for Sysco, which I believe can take the company to new heights if both companies successfully integrate and managed to lower operational inefficiencies. At the moment, Sysco dividends are safe, but with the negative growth in earnings, I do not expect any significant increase in dividends.
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.