Hormel Foods Corp. (NYSE:HRL) makes meat and food products, for sales in the US and internationally. Hormel has a variety of brands that you're probably familiar with and have maybe even eaten. From Spam to Skippy peanut butter, HRL boasts an impressive array of consumer staples. And the history of the company is even more compelling.
In 1892, George A. Hormel established today's HRL as Geo. A. Hormel & Co. By 1910, he was advertising nationally and internationally to grow sales of his pork products. By the time 1928 rolled around, HRL had become a public company (source). The other neat fact is that HRL has paid quarterly dividends since incorporation (source). Not a lot of companies can boast that kind of record.
As you can tell by this impressive lifespan, HRL is a staple for consumers. This business is not about to get disrupted by the next cool tech gadget (Soylent notwithstanding). The truth is HRL is a boring company. Yet owning the stock has been anything but. Here's a long-term look at the returns you'd have from holding HRL
Historic Hormel: 10 years in review
When it comes to analyzing companies by their past historical operating results, I always like to start with the top line. This gives a clear picture of how demand is changing over time. In the case of HRL, it looks like demand is only growing:
On the whole, the chart of revenue looks pretty compelling. The top line has been slowing down lately, so I'll be watching closely to see if growth can resume. Are slowing sales the reason for the recent share price correction? And is the cause US dollar strength, or a problem with the core business? Personally, I'm not yet too worried. One big reason for this is due to the strength of the brands HRL owns. As a result, they can generally raise prices with inflation.
Another revenue growth driver of note is acquisitions. HRL has a history of making acquisitions to drive growth (source) and this is likely to continue going forward as evidenced by the recent Justin's LLC acquisition (source). Additionally, as mentioned in the most recent conference call, HRL sold their stake in Diamond Crystal Brands. Although management believes this is in the long-term interests of shareholders, the immediate annual hit to revenue is estimated at $260M (source) which could be impacting the top line numbers on a TTM basis.
To get a better idea of the overall profitability of HRL, let's take a closer look at the bottom line. It's possible that, despite slowing sales growth, HRL may still be growing earnings. Let's see if that could be what's happening here:
So what's driving these earnings improvements? In addition to revenue growth, divestiture from less profitable businesses, and re-investment of retained earnings, the growth could be profit margins. Management recently mentioned that operating profits have been improving due to falling input costs.
Further, HRL has its own brands of products which have been growing strongly over the last quarter, and may be contributing a larger percentage to the bottom line compared to some of their other products (source).To confirm, we can look at a graph of 10-year gross and operating margins. And as you can see below, both numbers have trended higher recently.
On the whole, it looks like margin expansion supports the ongoing increase in earnings per share. If revenue growth can resume, this will be a very appealing combination. And while margin expansion can in part be due to cost cutting, in this case, it's likely also a result of leveraging prior investments and previously established distribution networks, by pushing new products through existing sales channels.
Since the upfront work is already done, these sales can be made at a higher margin. This hypothesis is also supported by the relationship between gross and operating margins. You can see that both are trending higher together, indicative of more efficient sales. So with that in mind, I'm cautiously optimistic that HRL can continue to maintain their margins. Disciplined dispositions of non-core businesses, like we saw last quarter, is another sign that management is focused on profitability in a more sustainable way than simply slashing costs.
Another appealing aspect of this business is the capital intensity. Over the years, HRL capital expenditures have remained relatively consistent, despite growing sales and earnings. This is always encouraging as it means the invested capital is producing more, which is consistent with the margin analysis above. Plus, there's more cash left over for shareholders. To help illustrate this picture, here's a graph of cash flow and capital expenses:
As you can see, despite the slight recent dip similar to that in revenue, HRL is consistently pumping out cash. This is further confirmed by comparing operating cash flow to net income. While not shown in the graph above, net income is well covered by operating cash flow. I always feel encouraged when this is the case because it reduces the likelihood that earnings are being inflated by accounting shenanigans.
To my eye, this is also reflected in the balance sheet of HRL. Not only does the company have a strong working capital position, but they also have a very small and manageable debt load. It's always reassuring to me when companies are able to finance their growth (and shareholder returns) without issuing debt. HRL has also avoided diluting equity holders over the last 10 years, as shares outstanding have remained consistent.
Speaking of shareholder returns, and as we mentioned earlier, HRL has been a very consistent dividend grower. Although the current yield is only about 1.5%, the dividend growth rate could make this look much better over the longer term. Your yield on cost would be very appealing had you bought this stock decades ago. Here's the data for the last 10 years:
You can see that payout ratio has edged a little higher in recent years. But it's still at a manageable level. As long as revenue growth can resume (or at least not go backwards), I'm confident the common stock dividend growth can be maintained. Given the historic reputation (and PR talking point), you get the feeling HRL would want to defend the dividend. The growth is nothing short of impressive.
The final arrow in the bull quiver that I want to cover is the growth of book value per share. The growth of HRL has been very kind to equity holders. In addition to dividends, equity owners saw consistent growth in the value of their equity:
Once again, HRL looks quite good. But as with most purchases, the decision to invest in HRL depends largely on the price. Currently, shares are trading at about 20 times operating cash flow. And this is after a 20% decline from recent highs. The forward P/E is above 21, the yield 1.5% and the stock is trading over 4 times book value. Plus, you could also make the argument a lot of that book value is goodwill. But I think these consumer brands really do command pricing power and could be worth the price tag.
So what does this all mean? Personally, I think the operating trends we've seen in the historical financial statements are likely to continue. This is due to the stable non-cyclical nature of HRL's business, their strong brands and history of successful execution. These financial trends are firmly connected to their business model.
Conclusion: Waiting for Further Pullback
At present, I don't own shares of HRL. But I am watching the recent pullback very closely. The selling still looks pretty intense, so I'm inclined to wait for another quarter of data before investing in HRL. While the long-term story looks incredibly compelling, I'm still curious to see if revenue growth can resume as I expect.
For that reason, I'm going to keep sitting on my hands for the moment. I'm eager to buy in, but have a history of getting cut trying to catch falling knives. I may start dollar cost averaging into the stock during the next quarter, and if I owned this stock from lower prices, I would probably be holding.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.