- Using Levered Returns cash flow model assumptions, I’m concluding a fair value estimate of approximately $51, a 4% discount to General Mills' latest trading price as of July 6th.
- Valuation multiples trade at a discount to underperforming competitor Kellogg.
- General Mills keeps pace with health conscious consumers.
- Consumers beginning to prefer snacking as opposed to meals a positive for GIS.
Levered Returns Cash Flow Model
I'm concluding a price target of $51.18 using Levered Returns' three-year projection model which implies General Mills (NYSE:GIS) is trading at around a 3.5% premium to its latest trading price as of July 6th. An Enterprise Value "EV" of $38.9 billion was determined by applying a discounted cash flow approach. After deducting net debt, minority interest, adding joint venture investments and other non-operating assets, I concluded a total equity value of $31.4 billion. It should be noted I estimated the fair market value of General Mills' joint ventures by applying a 19.0x multiple (company's current PE multiple) to fiscal year 2014 JV earnings. The estimated fair value of $1.7 billion is significantly higher than its book value of $507.5 million.
Overview EV Projection Assumptions:
- Revenue reaches $19.2 billion in year three which represents a three-year compounded annual growth rate "CAGR" of 2.3%.
- Operating income margin expands to 17.0% by FY 2017.
- Capital expenditures as a percent of revenue remain at 3.8% throughout the projection period, equal to the company's 10-year average.
- Working Capital as a percent of revenue, excluding cash and debt, remains at 2.4% throughout the projection period which is equal to the company's 10-year average.
- Tax rate of 32.0%, General Mills' LTM effective tax rate.
- Depreciation as a percent of capital expenditures remains at 95.0% throughout the projection period.
- Terminal value concluded by applying a perpetuity formula to the free cash flow in 2017 using a terminal growth rate of 3.0%.
- Discounting the terminal value and discrete cash flows using a weighted average cost of capital of 8.5%. The WACC was determined as follows:
General Mills Trades at a Discount To Kellogg
General Mills' latest twelve month "LTM" and projected trading multiples are slightly below those of Kellogg (NYSE:K). This presents an opportunity for value investors when considering General Mills is materially larger, historical EBITDA growth has been greater, and profitability has been superior (illustrated in the table below). I fully expect the market to correct this current multiple discrepancy in the near future. However, based on the assumptions in the LR model above I believe General Mills' multiples are reasonable while Kellogg's are rich.
Health Conscious Consumers
General Mills is well positioned to maintain market share as consumers are becoming more health conscious about their everyday diet. The company has been quick in reacting to changing consumer preferences. For example, gluten-free products have experienced significant demand over the last decade as consumers perceive these products as healthier. According to market research firm NPD Group, only 1 percent of Americans suffer from sensitivity to gluten. However approximately 33 percent now avoid gluten in their diets. General Mills has taken advantage of these types of trends by either introducing new products that do not contain gluten or reformulating existing products to offer gluten free versions. In addition, General Mills has the size and capability to achieve greater economies of scale than smaller private label companies that enter the market. General Mills' experience in the food industry, since its inception in 1928, allows it to quickly and efficiently act to changing consumer preferences. This puts the company at a serious competitive advantage versus its peers. Total industry sales of gluten-free products reached $4.2 billion in 2012 and is expected to climb to $6.6 billion by 2017 according to research firm Packaged Facts. I expect General Mills to continue its dominance in the packaged food and snacks industry for the next several years by taking advantage of these types of consumer trends.
Consumers Trending Toward Snacking
Much of the demand for food products is ultimately driven by demographics and health considerations. For example, people living extremely busy lives will demand food products that can be eaten on the go and within a certain amount of time. According to IRI's Times & Trends report, 21 percent of Americans have snacks throughout the day or have several "mini-meals" instead of eating full meals. The report also noted that the line between meals and snacks is increasingly fading. This is a positive trend for General Mills as the company generates 40% of its annual sales from these snack-like products, according to SEC filings. In addition, General Mills has leading positions in ready-to-eat cereal, yogurt and canned soup, offering convenient meal solutions to consumers. The company's Pillsbury brand also dominates the refrigerated baked goods segment with nearly a 70% share according to Morningstar. In conclusion, General Mills is well positioned to take advantage of changing consumer preferences.
General Mills is well positioned to maintain its market share ahead of changing consumer trends due to its size, experience and resources. Preferences change over time and General Mills continues to prove its agility by keeping up with these changing trends. The company currently seems fairly valued based on my assumptions in the LR cash flow model. I'm concluding a fair value estimate of approximately $51.18 per share which is a 3.5% discount to General Mill's latest trading price of $53.05 as of July 6th. The company's share price has fallen 4.5% since its all-time high of $55.56 reached on June 4th but I recommend value investors wait for a further pull back before buying GIS.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.