In my recent article published on 3/26/2012, which was the Consumer Staples installment of my "Yield, Value, Safety" series, I had identified General Mills (GIS) as a desirable holding, based upon the first-pass review presented in the article. At that time I did not own it, but I noted that it was a buy under $38. In June of this year the stock declined to the identified buy level, and I started a position at that time, buying in two increments, at an average price of $37.77. Based upon further research, to be summarized in this article, I continue to believe that GIS is a solid buy in the $38 to $39 range. Considering all that is going on in the world these days, I also believe that now is a good time to focus on non-cyclical, large-cap, defensive dividend payers like GIS, if any can be found that are not bid up too high. GIS is one of the few candidates that meets that valuation criteria. Read on to see why I own GIS, and why I can recommend it to conservative, dividend stock investors at this time.
Summary of Recent Developments
The stock has had a nice run to the upside, starting from the low of $23.19 experienced during the financial crisis, in March 2009, and culminating in a high of $41.06, reached in January of this year. Since then, the stock has traded in a $38 to $40 range, dipping below $38 briefly in June, as noted. At the time of this article submission, the stock is right in the middle of this range, at $38.99.
GIS has a unique fiscal year, which runs from the end of May each year to the next. Specifically, the fiscal year ends on the last Sunday in May each year. Fiscal year 2012 ended on 05/27/2012, and the annual report and 10K have been available from the company's website since early in July. Some of the highlights are:
- Significant input cost inflation of foodstuffs and energy has been impacting results in recent periods.
- A restructuring / cost containment initiative is under way, with a $101 million charge for severance and other costs being taken in the FY 4th quarter 2012, just ended.
- The company has moved aggressively in recent years to expand business via acquisitions and joint ventures. Recent activities: acquired a 51% interest in Yoplait S.A.S. and a 50% interest in a related entity, Yoplait Marques, completed in July 2012; acquired Brazilian firm Yoki Alimentos S.A. in August 2012; and acquired snack foods company Food Should Taste Good, in February 2012.
- An 8% dividend increase was recently instituted, effective 7/6/2012, to $.33 per share per quarter.
The next reporting date is scheduled for 9/19/2012, which will be for the first quarter of FY2013, which for GIS ended on 8/26/2012.
The initial predecessor company, Minneapolis Milling, was established in 1866. By 1928, when the merger of several regional millers resulted in the creation of the new General Mills Corporation, Gold Medal flour had been introduced, Betty Crocker was already busy in the kitchen, and Wheaties had become a household favorite. In 1941, Cheerioats debuted, and was later renamed to Cheerios, in 1946. Growth continued, such that today General Mills has 35,000 employees, manufacturing facilities in 15 countries, and, including joint ventures, markets products in over 130 countries.
General Mills is a large-cap stock, with approximately 648 million shares outstanding, with a market capitalization of $25.5 billion. The GICS classification is Consumer Staples, Packaged Foods. It is a component of numerous stock indices and ETFs, most prominently the S&P 500 Index and the Consumer Staples Select SPDR (XLP) ETF. The stock is 68% owned by institutions, with literally hundreds of funds and other institutional owners having a stake in the firm.
General Mills is organized into three major business segments, with the percentage of sales and percentage contribution to profit as follows:
- U.S. Retail, Sales 63%, Profit 76%
- International, Sales 25%, Profit 14%
- Bakeries and Foodservice, Sales 12%, Profit 10%
Additionally, the company markets through various joint ventures, such as the Cereal Partners Worldwide.
Interestingly, the firm notes that Wal-Mart is the firm's largest customer, accounting for 22% of total sales, and 30% of the U.S. Retail segment's business.
One particularly interesting notation from the annual report is that GIS and predecessor firms have paid dividends steadily for 113 years, with no interruptions or reductions. That fact alone makes General Mills a stock worthy of consideration for a dividend portfolio.
Revenue and Profitability
The first thing I want to know, when evaluating a stock, is how has the company performed lately? The most convenient data source for this information is the quarterly income statement summaries available from the MSN Money website, which was the source of the data for the most recent five quarters, as shown in the table below. As can be seen, values are somewhat stable from one period to the next. In fact, the only notable aberration was a $101 million restructuring charge in the most recent quarter, which was noted in the commentary accompanying the most recent results.
My next step is to take a look at the longer-range picture, which is easily done by reviewing two sources at MSN Money; the most recent five years of income statement data, and for even more history, the ten year income statement summaries. The latter was the source for the data shown below.
The historical records indicate that GIS has been a very stable earnings machine, with steady growth over the long term.
I also review the statement of cash flows for the most recent five quarters, and also for the most recent five years. Ideally, the Cash from Operating Activities will be greater than Net Income for most periods, indicating "high quality" earnings. That was the case for four out of five quarterly periods for GIS, and also four out of five annual periods.
Finally, I take a look at the profit margins under Key Ratios, and compare the most recent values to the firm's own five year averages, as well as to the industry values, to see how a company's recent performance stacks up. With a current Gross Margin of 36%, and a current Net Margin of 9%, I believe GIS is currently achieving respectable numbers, especially considering the input cost pressures that have been experienced in recent periods.
Financial Position and Debt
The MSN Money website data for GIS shows Leverage Ratio as 3.3, Debt to Equity Ratio as 1.16, Interest Coverage as 7.3, and the Dividend Payout Ratio as 51%. Looking at the Balance Sheet from the most recent quarterly filing, I calculate the ratio of Long-Term Debt to Total Capitalization as 29.2%, the ratio of Stockholder's Equity to Total Capitalization as 30.4%, and the ratio of Total Liabilities to Total Capitalization as 69.5%. While I would prefer that the equity ratio exceeded 50%, and that the corresponding total liabilities ratio was less than 50%, these numbers are not too far out of line, considering GIS has completed a string of acquisitions in recent years. That fact is also reflected in the significant amount of Goodwill (38% of Total Assets) and Intangibles (22% of Total Assets) on the Balance Sheet. No doubt, this is not an ideal, Ben Graham type of Balance Sheet. Positives are the stability of revenue and earnings, almost utility-like, and corporate debt ratings of BBB+ from S&P and Baa1 from Moody's, both well into the investment grade ranges. And don't overlook that 113 year history of steady, increasing dividends. All things considered, I am prepared to overlook GIS's less than pristine balance sheet.
So, all is well and good, as far as profitability and financial position, right? Well, perhaps, but after reading two very informative books recently, I'm not so sure. The books are:
Financial Statement Analysis, by Martin Fridson and Fernando Alvarez. (4th Edition)
Financial Shenanigans, by Howard M. Schilit and Jeremy Perler. (3rd Edition)
The books emphasize the adversarial nature of corporate financial reporting, in a way I never perceived before: the preparer of the documents, the corporation, wants to present as positive a picture as possible, and while (usually) staying within the law, has no incentive to highlight negative developments; the recipient, or user of the documents, the investing public, wants to see as clear a picture as possible of the recent period results, trends, and so on, regardless whether the results are good or bad. Both books go on to describe not only the shocking scandals at Enron, WorldCom, and Tyco, but many other anecdotal examples of companies that reported results that were misleading, even if not criminal. Some surprising names turn up, illustrating that these transgressions are not confined to minimal, here today, gone tomorrow firms. After reading these books, I will never again view press releases and financial filings in the same trusting way again. Still, as the authors concede, most firms report properly most of the time.
Some of the situations which can confuse period to period comparisons, or otherwise complicate an evaluation, are present with GIS. These are numerous recent acquisitions, restructuring actions, and joint ventures. General Mill's approach to accounting is rated as aggressive by Government Metrics International (GMI), a corporate governance and accounting risk ratings firm. GMI awards GIS their next-to-lowest rating. Other negatives are that a significant proportion of assets on the balance sheet is comprised of Intangibles and Goodwill, the Pension Plan estimated future returns of 8.6% seems overly optimistic, and the CEO is also the Chairman of the Board.
Still, after reviewing the most recent 10K and management comments, it seems to me that management has been forthcoming regarding the acquisitions and restructuring, and has laid out a viable plan for growth and profitability going forward. So, at this point, I am willing to concede the benefit of any doubt to management, and I will base my recommendation purely on the record and the published numbers.
As noted, General Mills has a 113 year history of steady dividend payments, with no suspensions or reductions. The most recent increase was an 8% boost effective 7/6/2012, which results in a current yield of 3.36%. In spite of the aforementioned longevity record, GIS is not an S&P Dividend Aristocrat, nor a Mergent Dividend Achiever, nor one of David Fish's Dividend Champions. The company does qualify as one of David Fish's Dividend Challengers, which is a firm which has increased dividends steadily for five to nine years. The reason for the exclusions is a dividend increase drought from 1/6/1999 to 7/8/2004. GIS has picked up the pace of increases significantly since then, with the payments increasing 69% over the past five years. Considering that, and the fact that the payout ratio is only 51%, I am satisfied that dividend increases will continue as long as revenues and earnings can support the increases.
Valuation and Technicals
GIS is not into a price range where it could be considered a true value stock. My interest in the stock is at least a little influenced by a dearth of attractive dividend stock opportunities in today's market. Still, the valuation metrics are not too far out of line. Specifically, the present valuation metrics, and for reference, the levels for a value stock, are:
GIS: P/E = 16.7, Price/Book = 3.97, Price/Sales = 1.53, and Price/Cash Flow = 12.5.
Value Stock: P/E < 15, Price/Book < 1.5, or at least not > 3.0, Price/Sales < 1.50, and Price/Cash Flow < 10.00
Price charts of GIS display the reality that the stock has been in a $38 to $40 range since rising up from a low around $35, reached during the summer decline of 2011. As one would expect from a defensive stock, GIS holds up better than most during periods of market decline, and continues pumping out steady dividends regardless of which way the market winds are blowing.
Ratings and Sentiment
As is typical for a well known large cap stock, analyst coverage is extensive. S&P rates the firm as a Four-Star stock, which is a Buy, with Low risk, and with an Earnings and Dividend Quality rating of A, the next-to-highest rating available for that category. Morningstar rates it a Four-Star stock, one possessing at least a narrow moat. Thomson-Reuters indicates that there are seventeen analysts following the firm, with three rating GIS a Strong Buy, seven a Buy, and seven a Hold. Various other ratings of interest are: Schwab - D, Under Perform, Credit Suisse - Neutral, Reuters - Out Perform, Argus - Hold, The Street - Buy, Ford Equity - Hold, EVA Dimensions - Hold, Ativo - Neutral, and Zacks - Neutral. The ratings seem to be weighted slightly towards the positive, but the stock is definitely not over-loved. Two advisory services I subscribe to and recommend are both favorably disposed towards the stock. One is the Morningstar Dividend Investor, edited by Josh Peters, and the other is Investment Quality Trends, edited by Kelley Wright.
I always do a search on Seeking Alpha as part of my stock research on a firm, to see if any articles are available which might offer further insights. Entering the stock symbol in the search box (on 9/6/2012) brought up four recent articles on GIS, all of which are favorably disposed towards the stock. I recommend that an investor contemplating investing in GIS, or any company for that matter, do a quick search on Seeking Alpha as suggested for additional perspectives.
Before I conclude, in the interest of full disclosure, I want to note that I am not a financial professional, nor am I certified in any way as a financial advisor. I am an independent, individual investor, focusing on dividend-paying stocks exclusively.
I recommend GIS as a solid, foundation holding for a dividend portfolio. I would, however, hesitate before paying more than $39 for shares. With the next ex-dividend date not coming along until early October, I would recommend waiting for a buy opportunity below $39, or as an alternative, starting a position at current prices, and then waiting for a decline to add to the position.