General Mills (GIS) is one of the largest diversified food processors in the United States.
-Revenue Growth: 5%
-Earnings Growth: 8-13%
-Dividend Growth: 11%
-Current Dividend Yield: 3%
-Balance Sheet Strength: Medium
Overall, while I think General Mills would make an acceptable investment at the current price of a bit over $40, I think there are better options out there.
General Mills (NYSE: GIS), founded in Minnesota in 1866, is a large international food company. The business controls over 100 leading brands, including Cheerios, Haagan-Dasz, Betty Crocker, Green Giant, Nature Valley, Hamburger Helper, Cocao Puffs, Totinos, and more. In 2011, General Mills acquired a controlling interest in Yoplait, an international yogurt brand that General Mills had already been licensing for years.
The company is one of the largest US food processors, and particularly has a huge set of breakfast cereal brands including the top brand, Cheerios. The majority of General Mills brands, both in cereals and in other categories, hold either the #1 or #2 market position. General Mills has facilities all over the world, including in North America, Asia, Europe, and South America.
US Retail: $10.2 billion in sales
The bulk of the revenue of General Mills comes from the US. Of this $10.2 billion, 23% comes from General Mills cereals, 21% comes from meals, 18% comes from Pillsbury US brands, 15% comes from Yoplait, and the rest comes from snacks and other items.
International: $2.9 billion in sales
Of this $2.9 billion, 31% comes from Europe, 29% comes from Asia, 27% comes from Canada, and 13% comes from South and Central America.
Bakeries and Food Service: $1.8 billion in sales
In addition to selling to consumers, General Mills sells $1.8 billion worth of products to bakeries, restaurants, and other businesses.
Joint Ventures: $1.2 billion in sales
General Mills holds a few joint ventures. They’re part of “Cereal Partners Worldwide”, and also have a joint venture Haagan-Dasz Japan.
Revenue, Earnings, Cash Flow, and Metrics
General Mills has experienced reasonable growth over the last 5 years, and the same can be said when looking further back over a ten year period.
Revenue grew by an annualized 5% rate per year, which is decent.
The annualized EPS growth rate over this period was a rather impressive 13%. However, over the last seven months, the trailing-twelve-month EPS has dipped down to $2.35, so depending on what precise time frame the EPS growth rate is calculated over, it could differ significantly. If, for example, I calculate the EPS growth rate over a five-year period that goes from 2007 to 2012, using the trailing twelve month EPS as my substitute number for 2012 results (with the fiscal year ending in May), then the EPS annualized growth rate will come out to a bit over 8%, which I estimate is probably more realistic going forward over the long term.
Volatile figures can make calculating growth rates difficult, because different time snapshots will produce different results. Overall, I think a high single digit rate is an accurate reflection of EPS growth, which is reasonable when combined with a 3+% dividend yield to produce low double-digit returns.
Operating Cash Flow Growth
Operating cash flow growth is negative over this period. This, however, is another result of volatility. Over the trailing twelve month period, operating cash flow is back up to $2.081 billion. For the fiscal year ending in 2011, General Mills had a very strong year for earnings, and a weak year for cash flow, because inventory increased (which shows up as income but not as cash flow), and changes in working capital and non-cash were larger than normal, which resulted in the appearance of strong earnings and weak cash flow.
Realistically, cash flow is doing ok, although even with the TTM rebound to over $2 billion, cash flow growth is slow.
Price to Earnings: 17
Price to FCF: 17.5
Price to Book: 4
Return on Equity: 28%
General Mills has a solid history of consecutive dividend growth, and currently offers a 3.02% dividend yield with a 50% payout ratio.
The above numbers are adjusted for the stock split. Over this period, General Mills has grown the dividend by an annualized rate of over 11%. The most recent quarterly increase was a bit under 9%.
General Mills also pays out money for share repurchases. They bought back $1,164 million worth of net stock in 2011, which is more than they paid in dividends. The company has strong free cash flows and uses basically all of it, and sometimes more than 100% of it, to pay dividends and buy back shares. I’m not too happy about huge share repurchases at 17x earnings. There are definitely worse ways to spend that capital, but there are better ways to spend that capital as well, such as in the form of larger dividends.
General Mills has a total debt/equity ratio of 1.08, which is a bit on the high side, but acceptable for a company in this rather defensive industry. The total debt levels are about 4.4x annual net income. The interest coverage ratio is approximately 8, which is very comfortable. The shareholder equity that exists, all consists of goodwill from their acquisitions. Overall, General Mills has an acceptable and safe, though not excellent, balance sheet.
General Mills is targeting the right groups for growth. They describe their marketing efforts as focused on four key areas: 1) the baby boom generation, which is a population bulge that occurred after World War II, 2) the millennial generation (ages 17 to 34, currently), which are sometimes also called the echo-boomers since they were the offspring of the baby boom generation, 3) “U.S. Multicultural Consumers”, which refers to the growing segment of the US population of people of Hispanic ancestry, and 4) middle-class consumers in emerging markets around the world, where there is a lot of growth.
One can look at where their sales come from to see areas for growth. Asia can grow as a part of their sales substantially, and so can South and Central America.
Over the long term, the company has stated that it targets low single-digit sales growth, high single-digit EPS growth (meaning continued share repurchases), a 2-3% dividend yield, and therefore low double-digit total shareholder returns.
The company, like most corporate food producers, has been on a “health trend” lately. This means that they market a subset of their products as “healthy” (like whole grain cereals, fiber bars, Nature Valley products, and so forth), when in reality, they’re not particularly healthy as a group, but are less unhealthy than their other food offerings. It’s a step in the right direction over a bar that’s recently been set so low. Still, these marketing campaigns are effective and profitable; people see healthier alternatives and go after them. The company does sell some organic products.
It’s worth highlighting the dividends and share repurchases as a general example of why dividend investing works well. If you look at several of the companies out there that have managed to consecutively raise dividends for decades, you’ll notice that if you sum up their dividends and net share repurchases (shares purchased minus shares issued), then you’ll see that the companies in this club, in aggregate, are returning most of their net income or free cash flow to shareholders, while still growing their business at respectable rates. This is because they have achieved a certain status, a certain level of success, where their brand strength, their distribution networks, their patent shields, and their effective marketing campaigns, can grow the business with less capital input. Throwing more money at these growth models wouldn’t produce proportional growth for those dollars, so it’s often better to give them back to shareholders. Successful and established companies can regularly produce large amounts of free cash flow.
I’d prefer, however, for a company like General Mills to pay higher dividends and to keep share repurchases to a smaller sum (like just using them as a sink for extra capital after dividends are paid), or replacing share repurchases with a special dividend that supplements the regular dividends. Share repurchases fuel EPS and dividend growth, but so do reinvested dividends. Share repurchases reserve flexibility for management, makes their EPS numbers better which looks good for the executives and their pay packages, and works as a bit of a hedge against the possibility of dividend tax rates going back up to where they used to be. Larger regular dividends and the introduction of special dividends for extra capital would, in most cases, be better for shareholders, although share repurchases are a bearable alternative. I’m more accepting of share repurchases for companies with P/E ratios of something like 12, not so much at 17.
Like any company, General Mills has risk. Food companies are rather defensive in nature, but they are vulnerable to increasing commodity costs (food costs, transportation costs, packaging costs, etc). Consumers can also trade down from brand names to generic food items. As an international company, there is currency risk as well. General Mills is in a pretty solid area, with strong brand names and a $26 billion market cap which gives it some scale, but I don’t view the business as having a very robust economic advantage.
Huge amounts of processed corn and wheat are in virtually all American diets these days, as well as in the diets of other developed areas. The US government subsidizes corn, wheat, and soy with billions of dollars per year, which allows farmers to produce those materials cheaply and still make a profit. So General Mills is indirectly subsidized by the US federal government, because should those farm subsidies ever be reduced, altered, or eliminated, the input costs would rise for General Mills, the volume of those materials would likely reduce significantly, and there’s a good chance they wouldn’t be able to pass on the full price increase to consumers.
Conclusion and Valuation
Overall, I think GIS is acceptable at the current price of around $40, but there are better values out there in my opinion. It’s right on the low end of having a 3% dividend yield, the trailing P/E is about 17 and the forward P/E is about 15, growth is reasonable, and so forth. It’s just mediocre to me at these prices. If I’m going to pay 17x earnings, I’d look for a company with a more durable economic advantage. Alternatively, if I’m going to look for a company of a similar level of quality and risk as GIS, I’d look for lower prices (perhaps 15x trailing earnings or so). I doubt anyone would go wrong over the long term with a General Mills investment at these prices, with their diverse portfolio of market-leading brands, but I’d wait for a price dip or look elsewhere.
Disclosure: I have no position in GIS at the time of this writing.
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