My father (God rest his soul) would put just about anything you can imagine on saltine crackers. Cheese. Pepperoni. Peanut butter. Margarine. And my absolute favorite, spreadable Spam. In my opinion, this love-it-or-hate-it, shelf-stable meat gets a bad wrap but there’s much more to Hormel (HRL) than Spam. Other brands include Jennie-O, Lloyds, Chi-Chi’s and Country Crock. I can’t miss Hormel products when I go my local Safeway (SWY). Not only is its meat party trays prominently displayed near the deli but its Country Crock side dishes dominate the options offered to consumers stopping in for a whole chicken to go. When it comes to brand presence, Hormel nails it.
Profitability
Earnings per share has averaged growth of 18.7% annually for the last three years and has more than doubled over the past decade. While gross margins have been pressured by rising input costs, net margins have remained steady. Margins are in line with industry averages but should be monitored closely as potential earnings problems will show up here first.
Hormel’s Earnings per Share
2002 | 2003 | 2004 | 2005 | 2006 | 2007 | 2008 | 2009 | 2010 | 2011 |
.68 | .67 | .83 | .91 | 1.03 | 1.09 | 1.04 | 1.27 | 1.46 | 1.74 |
Debt
Great businesses typically generate strong cash flows and require little debt financing. I like to see long-term debt less than three times current net earnings. With long-term debt of $250 million and trailing 12-month net income of $479 million, Hormel boasts a very conservative balance sheet including a full year of income in cash.
Return on Equity
Companies that consistently deliver high returns on equity create the true wealth for shareholders. Average businesses typically offer a 12% return on equity while great businesses return over 15%.
Hormel’s Return on Equity (rounded)
2002 | 2003 | 2004 | 2005 | 2006 | 2007 | 2008 | 2009 | 2010 | 2011 |
18% | 16% | 17% | 17% | 17% | 16% | 15% | 17% | 18% | 19% |
Hormel’s 10-year average ROE is a healthy 17%.
The Dividend
Hormel currently offers a 2% yield supported by a 34% payout ratio. It has increased its dividend annually for 46 straight years at an average 12.7% clip over the last five years. Worth noting is that the most recent dividend increase was 21%, reinforcing management’s confidence in the business.
Retained Earnings
I want to own companies that are free to reinvest retained earnings at high rates of return. What I don’t want to see is high research and development costs or capital expenditures in the form of plant and equipment replacement. Hormel’s investment in property, plant and equipment amount to 20%-25% of net income annually, which seems in line with other food companies I’ve been reviewing. SG&A costs have fallen significantly since 2008, which has allowed the company to hold the line on its net margins.
Valuation
At $29.24, Hormel sells for a price-to-earnings ratio of 16.8, which is right in line with its historical average of 16.6. Based on a three-year average of past earnings growth, it is selling for PEG ratio of .9. Forward PEG based on 9% projected earnings growth is pricier at 1.4. Price-to-sales however is 1, making it attractively valued at current levels. There was also significant buying on December 7, which ought to support price moving forward.
Disclosure: I am long HRL.
