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Summary

  • J.M. Smucker's fourth quarter earnings were impacted by lower coffee prices, which saw a sharp rebound recently.
  • This was already known by the market as investors find comfort in the full-year outlook.
  • Shares only offer real appeal on significant dips.

J.M. Smucker (SJM) released a "solid" set of fourth quarter results which were impacted by lower coffee prices. As a result, reported earnings and revenues were down on the year before.

Despite this investors are comforted by the outlook for the coming year, as J.M. Smucker is providing visibility in this uncertain environment.

Fourth Quarter Headlines

J.M. Smucker reported fourth quarter revenues of $1.23 billion which were down 8% compared to the year before.

Reported net earnings fell by 9% to $118.5 million. As a result of share repurchases, the fall in earnings per share was limited to 5% with earnings falling to $1.16 per share.

Adjusted earnings which exclude special project costs fell by eight cents to $1.21 per share.

Looking Into The Operations

J.M. Smucker reported revenue declines in each of its three major operations. US retail coffee revenues fell by 12% to $473.5 million as lower prices more than offset a 1% jump in volumes. Smucker. which sells coffee under the Folgers and Dunkin' Donuts brands, is a leading player in the coffee market. As such the company was hit hard by the sharp reversal of coffee prices recently.

Profits of the coffee operations fell by 10% as profit margins improved by 50 basis points to 28.1% of sales. The company cut retail prices to reflect the fall in coffee prices towards the end of 2013 and the start of this year. However, these price cuts were not entirely offset by lower input green coffee costs. A sharp rebound in coffee prices squeezed J.M. Smucker's earnings as it took the company by surprise.

US retail consumer food revenues fell by 4% to $465.8 million. Poor pricing for Crisco and Jif more than offset a 3% jump in volumes. Earnings were actually up 6% as profit margins improved by 200 basis points to 20.6% of sales. Lower commodity costs and marketing expenses more than offset an increase in manufacturing costs.

International, foodservice and natural foods revenues fell by 7% to $295.0 million. Sales actually fell by 12% in constant currency terms. The company's decision to exit portions of the hot beverage business and frozen sandwiches are the main reason behind the fall in revenues.

Margins took a beating, falling by 480 basis points to just 10.7% of sales. Increased spending and losses on derivative contracts are the reason behind the fall in earnings.

Looking Into The New year

For the fiscal year of 2015, J.M. Smucker anticipates roughly 5% net sales growth driven by the increase in US retail coffee prices as communicated last week. Non-GAAP earnings are seen between $5.95 and $6.05 per share.

So far the company has identified charges of $0.15 per share which will impact GAAP earnings this year, although this could increase.

Valuing J.M. Smucker

The company currently operates with $153.5 million in cash and equivalents. Total debt stands at $1.98 billion which results in a solid net debt position of around $1.8 billion.

For the fiscal 2014, Smucker reported revenues of $5.61 billion on which it net earned $565 million.

Trading around $104 per share, J.M. Smucker is valued at $10.8 billion. This values equity in the firm at 1.9 times annual revenues and 19 times GAAP earnings.

The company's quarterly dividend of $0.58 per share provides investors with a 2.2% dividend yield.

Implications

J.M. Smucker faced a difficult quarter with gross margins compressed by 10 basis points to 35.7% of sales. Operating margins fell by 50 basis points to 15.5% of sales as amortization charges were up and selling, general and administrative expenses did not decline as much as revenues did. A higher effective tax rate hurt the bottom line as well.

At the company's investor presentation in February of this year, J.M. Smucker admitted that the company still relies heavily on coffee sales which make up nearly half of total revenues. To illustrate, the second largest business are the peanut butter activities which make up 13% of total revenues.

The company holds a 30% market share in the $8.3 billion coffee market while its peanut butter business holds an impressive 47% of that $2.0 billion market.

In several smaller niche markets, the company has even more dominant brands. In shortenings and ice cream toppings, Smucker holds a 67% and 62% market share, respectively. Unfortunately those markets are relatively small with a total size of just $210 million and $140 million, respectively.

Takeaway For Investors

J.M. Smucker's earnings were impacted by very low Arabica coffee prices which resulted in the company offering promotional discounts. Worries about the impact of the drought in Brazil on the harvest have resulted in coffee futures nearly doubling in recent months, creating pressure on the profitability.

To offset the impact on earnings, J.M. Smucker raised official retail list prices by 9% last week. The peanut butter business is also seen as a driver for this year's earnings as long-term expensive peanut purchase contracts are expiring. The existence of these contracts did not allow J.M. Smucker to benefit from lower prices recently.

These trends and the recent hike in coffee prices in particular resulted in the 5% projected jump in revenues for the fiscal 2015. Both the earnings as well as the revenue guidance looks favorable compared to consensus estimates.

That being said, shares trade at already fairly high multiples leaving little room for multiple expansion in my opinion. As such I remain on the sidelines, although I will be a buyer on significant dips towards the $90 mark. At those levels, shares will trade at 15 times non-GAAP earnings which appears fair in my opinion.

The company owns very strong and valuable brands which are growing at a steady and reliable pace. However, the coffee business does add volatility to the headline results, preventing shares from commanding a premium valuation. As such I like to build in a margin of safety before picking up shares at current levels.

Source: J.M. Smucker - Investors Find Comfort In Full-Year Outlook