Too Early To Pull The Trigger On Dean Foods Bonds

| About: Dean Foods (DF)


Bonds mature in October of 2017 and yield 3.665%.

They are B rated by S&P.

Milk prices keep decreasing.

Dean Foods (NYSE:DF) has a series of bonds that yield 3.665% and mature 10/15/17. That's a pretty good yield considering that comparable Treasuries yield about 0.9%. The challenge is that commodities seem to keep going lower and lower.

The price of the bonds is 105.23611, coupon 6.9%, and the cusip is 242361ab9. They are B rated by S&P which might be a little low in my opinion. This was from Charles Schwab's inventory.

According to the 10-Q, there is $63 million in cash and $656 million in accounts receivable. The liability side shows $738.6 million in accounts payable and $839 million in long term debt. That ratio is pretty good and what impresses me about the bonds. I would like to see some more cash, maybe $100 million. Still, I think the bonds should be BB rated and not B rated.

The more challenging aspect of Dean is that it is a manufacturer and requires large investments in property, plant, and equipment. It also must maintain that equipment. According to Morningstar, free cash flow was $4 million in 2014, negative $492 million in 2013, and $218 in 2012. However, trailing twelve months free cash is $286 million. It's these paltry free cash flow numbers that spook the bond markets.

Back in 2014, Class III milk futures were bringing over $24 per hundred pounds. Now they bring in $13.87. This Barron's article gives the old supply and demand argument. Lower prices mean less cows which decreases supply which in turn increases price. This article was written back in November and thus far, the theory has not panned out.

Other problems include China importing less milk and the EU eliminating dairy quotas. Less demand and higher supply equals lower prices.

I like commodities and have bought into the thesis that seven billion people on the planet need to eat. However, this funky economy seems to have blown a hole in that thesis and commodity prices might go lower. Why? China, inflation, debt cycle, Donald Trump, who knows?

You'd think that a corporate bond with a year and a half to mature with a 3.665% yield is a no brainer but unfortunately, it's not. The challenge with commodity companies at this point in the cycle is that the cash and free cash flow can quickly disappear but the debt and liabilities do not. That is why I am keeping my eyes on these bonds but not ready to pull the trigger.

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.

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