Company Description (Source: SEC 10-K)
General Mills, Inc. (GIS) is a global manufacturer and marketer of consumer foods sold through retail stores like Wal-Mart Stores, Inc (NYSE:WMT). The Company also supplies branded and unbranded food products to the foodservice and commercial baking industries. The Company's businesses are organized into three operating segments: U.S. Retail, International, and Bakeries and Foodservice. Its product categories in the United States include ready-to-eat cereals, refrigerated yogurt, ready-to-serve soup, dry dinners, shelf stable and frozen vegetables, refrigerated and frozen dough products, dessert and baking mixes, frozen pizza and pizza snacks, grain, fruit and savory snacks, and a variety of organic products including soup, granola bars, and cereal.
Vital Statistics
Recent Price: $39.61 (as of 02/15/2012)
52-Week Range: $34.64 - $41.06
Market Capitalization: $25.53 Billion
P/E Ratio: 16.84
EPS: $2.35
A 10-year summary of Sales, Earnings Before Interest and Tax (EBIT), Earnings per share (EPS), yearly high and low stock price, corresponding high and low P/E (calculated by dividing the high and low price by the EPS for the year), and average P/E (average of high and low P/E) is shown below.
Key 10-year data for General Mills
Fiscal Year |
Sales (in Billions) |
EBIT (in Billions) |
EPS |
High Price |
Low Price |
High P/E |
Low P/E |
Average P/E |
2011 |
14.88 |
2.43 |
2.71 |
39.95 |
33.57 |
14.7 |
12.4 |
13.6 |
2010 |
14.64 |
2.2 |
2.24 |
36.96 |
25.59 |
16.5 |
11.4 |
14.0 |
2009 |
14.56 |
1.94 |
1.9 |
35.08 |
23.61 |
18.5 |
12.4 |
15.4 |
2008 |
13.65 |
1.83 |
1.88 |
31.25 |
25.72 |
16.6 |
13.7 |
15.2 |
2007 |
12.44 |
1.63 |
1.59 |
30.56 |
24.64 |
19.2 |
15.5 |
17.4 |
2006 |
11.71 |
1.56 |
1.45 |
26.08 |
22.33 |
18.0 |
15.4 |
16.7 |
2005 |
11.31 |
1.81 |
1.54 |
26.95 |
21.51 |
17.5 |
14.0 |
15.7 |
2004 |
11.07 |
1.51 |
1.3 |
24.83 |
21.88 |
19.1 |
16.8 |
18.0 |
2003 |
10.51 |
1.32 |
1.21 |
24.09 |
18.69 |
19.9 |
15.4 |
17.7 |
2002 |
7.95 |
0.667 |
0.67 |
26.43 |
20.81 |
39.4 |
31.1 |
35.3 |
From these data, we can plot Sales, EBIT, and EPS versus Year, as shown in the chart below.
Sales (in Billions), EBIT (in Billions), and EPS versus Year for General Mills, 2002-2011
As evident from the chart above, GIS has demonstrated very predictable sales and earnings over the past 10 years (with R squared greater than 0.9), the mark of a great company. This allows us to predict EPS in the near future, say in five years (i.e. Year 2016), using the logarithmic regression equation for EPS = 6.129E-81 * exp(0.09229*2016) = 3.897. This projection assumes 9 percent annual EPS growth.
A conservative average P/E estimate for the stock can be obtained as follows:
Signature P/E: A well established stock has a signature P/E, an average P/E it commands in the market based on its business. We calculate this by averaging the Average P/E over the past 10 years, excluding any outliers (data points that fall significantly beyond the other data points). The abnormally high P/E from 2002, due to temporarily depressed earnings, is an outlier, so we average the Average P/Es from the past 9 years to arrive at a signature P/E of 16.
High P/E estimate: a conservative high P/E estimate can be calculated by averaging the five lowest High P/Es of the 10 High P/Es from the past 10 years. Averaging the 5 lowest High P/Es from the past 10 years gives 16.7.
Low P/E estimate: a conservative low P/E estimate can be calculated by averaging the five lowest Low P/Es of the 10 High P/Es from the past 10 years. Averaging the 5 lowest Low P/Es from the past 10 years gives 12.8.
Average P/E estimate: this takes the average of the High P/E estimate and the Low P/E estimate, as calculated above, to give a conservative estimate of an average P/E for the stock we can expect. Averaging 16.7 and 12.8 gives us 12.72.
Target Price
Multiplying our EPS projection for 5 years hence by the average P/E estimate gives us a projected average price for the stock: $3.897 * 14.72 = $57.38, which represents an annual stock price return of 9.7 percent from the current price = $39.61. When we add in the 3.1 percent dividend yield, the total return expected is 12.8 percent a year, which means an investment in GIS today is expected to double in about 6 years.
Given a beta = 0.19 for GIS, a risk-free rate = 2% (using the yield on 10-year Treasury bond as a benchmark), and estimated risk premium of about 8 percent for the general stock market, we have a discount rate = 2% + 0.19*(8%) = 3.52%. Applying this discount rate of 3.52%, our projected price of $57.38 in 5 years translates to a target price = $48.27 in today's dollars. This is about 22% upside from the current price of $39.61, suggesting the stock is undervalued right now. For a good margin of safety, investors are well advised to buy only if the current price is at least 20% below the target price, which means a buy price = $38.62, close to the current price.
Current P/E Compared with Signature P/E
The stock's current P/E should be compared with its signature P/E, since established stocks tend to revert back to their respective signature P/Es over the long term. The current EPS = 2.35, giving us a current P/E = 16.86. This is about 106% of the stock's signature P/E of 16, suggesting the stock is slightly overvalued right now. To provide some margin for error, we should look to buy when the current P/E is 80% or less of the stock's signature P/E, which means a buy price around $30.
General Mills's P/E Compared with Competitors' P/Es
It is helpful also to compare General Mills's valuations with those of its competitors and peers in the Processed & Packaged Goods industry. Current P/E and Forward P/E are tabulated below for the company and its competitors.
Stock |
Current P/E |
Forward P/E |
General Mills (NYSE:GIS) |
16.86 |
14 |
Kellogg (NYSE:K) |
15.64 |
14.02 |
Kraft (KFT) |
20.92 |
15.19 |
J.M. Smucker (NYSE:SJM) |
16.73 |
13.93 |
Conagra Foods (NYSE:CAG) |
15.5 |
13.76 |
Mean |
17.13 |
14.18 |
Median |
16.73 |
14 |
General Mills sells at a similar valuation compared to its competitors. Kraft sells at a premium and Conagra Foods sells at a discount.
Historically, for the past 10 years, General Mills has performed in line with its competitors, outperforming Kraft and Conagra Food, performing about the same as Kellogg, but underperforming J.M. Smucker. It has also outperformed the S&P 500 (which General Mills is a part of) over the past 10 years.
Risk Index
Lastly, we calculate the Risk Index, calculated as (Current Price - Forecast Low Price)/ (Potential High Price - Forecast Low Price) to give an estimate of the risk: reward ratio. Risk index less than 20% is desired, which gives us +200% potential returns for every risk of 50% loss we assume.
The Forecast Low Price is calculated by multiplying the Low P/E estimate by the Forecast Low EPS, to give a conservative estimate of low price for the stock in 5 years, assuming zero EPS growth and low valuation. Forecast Low EPS is estimated by averaging the EPS over the past 5 years. For growth stocks with predictable earnings growth, EPS in 5 years should not be any lower than this conservative estimate. For GIS, the forecast low EPS is equal to 2.064, so the Forecast Low Price = 12.8 * 2.064 = $26.37.
The Potential High Price is calculated by multiplying the High P/E estimate by the projected EPS in 5 years, giving us a price target in 5 years should the stock command a high P/E. For GIS, this equals 16.7 * 3.879 = $64.97.
Thus, the Risk Index = ($39.61 - $26.37) / ($64.97 - $26.37) = 34%. Since this exceeds 20%, the stock has an unfavorable reward to risk ratio at the current price. A pullback to $34 would provide a risk index below 20%.
Conclusion
General Mills, Inc., currently selling around $39.61, has a target price = $48. The stock is currently trading at a premium to its historic P/E, and has a slightly unfavorable risk index. Nevertheless, it has similar valuations compared to its competitors, and is expected to return 12.8% a year, allowing doubling of investment in about 6 years. Therefore, I rate the stock a HOLD at the current price. A pullback to $34 would provide an excellent opportunity to buy the stock as a long term investment.
Use this information as a starting point for your own due diligence, before buying any stock. If you do buy, be sure to read any annual reports (10-K) and quarterly reports (10-Q) to ensure that the fundamentals remain good and the stock is on target to reach its projected price. After holding for five years, repeat the analysis detailed in the article to decide whether to continue to hold, add, or reduce your position.