How General Mills Stacks Up To Kraft Heinz And Kellogg

| About: General Mills, (GIS)

Summary

I am still looking for good candidates in the consumer staples sector, and right now I am looking at the processed food sub-sector.

In previous articles I analyzed Kraft Heinz and Kellogg and tried to find out which investment is more attractive.

In this article I will add General Mills to the comparison. I will analyze its fundamentals, valuation, risks and opportunities.

I am still on my quest for quality companies in the consumer staples sector. I am still sure that the packaged food sub-sector does offer value at the current prices. While the companies in this sector suffer from hardships, it resembles the hardships in the oil industry in 2014. The obstacles hit the entire sector, and just like with the energy sector, the stronger will survive, and may even be a leaner more efficient company.

In previous articles I analyzed Kraft Heinz (KHC) and Kellogg (K). I found both companies to be strong and resilient with relatively high pricing power. I preferred Kellogg, because I believe that it is in a better position to rebound. Yet I also like Kraft Heinz due to its size and very impressive dividend yield. Moreover, it has two dominant stockholders who know how to improve a company.

In this article I am going to continue my analysis of the sub-sector. I will be using the comparison between Kraft Heinz and Kellogg. I will add to the comparison a third company, General Mills (GIS). General Mills is also a member of this sub-sector, and I will analyze the fundamentals, valuation, risks and opportunities using the chart below.

General Mills manufactures, and markets branded consumer foods in the United States. The company operates in four segments: North America Retail, Convenience Stores & Foodservice, Europe & Australia, and Asia & Latin America. The company markets its products under many brands, some of them very successful and popular. It also supplies branded and unbranded food products to the foodservice and commercial baking industries.

Fundamentals

General Mills shows top line decline over the past three years. The company is struggling with the changes in trends among the American people. As people don't buy as much packaged food as they used to the company has to find new products, and new brands to satisfy the new needs of the public. In the meantime, the company must become leaner and more efficient to keep growing its bottom line. Its peers suffer from the same problems, and the top line growth shown by Kraft Heinz is due to the merger.

General Mills just like its peers managed to show some bottom line growth. It was done by cutting costs and turning the company into a leaner and more efficient version. If the company makes a successful turnaround, it will be a much stronger General Mills. Cost cutting cannot be done forever, and eventually the company will need to find a new growth opportunity. The forecasts for EPS stagnation should keep investors concerned.

The dividend is probably the only bright spot. The company offers a high dividend yield which is also higher than the dividend offered by its peers. Moreover, this 4.4% dividend yield is very safe as the payout ratio stands at 63%. It doesn’t give much room for dividend raises as long as the EPS is not growing, but it is for sure not at risk of cutting the dividend.

Another way to reward your shareholders is to decrease the number of shares outstanding by issuing buyback plans. General Mills is increasing the number of shares outstanding to fund its latest acquisition of Blue Buffalo. Kellogg is the only company among the three that has a buyback plan active. I believe that Kellogg has the best fundamentals among the three. The lower payout ratio gives it more flexibility, and the company does manage to show a positive forecast.

Valuation

General Mills trades for the lowest valuation among the three. I believe it is justified as it grows at the slowest pace. I do believe that a P/E ratio of 14 is attractive and can offer an interesting entry point for investors who don't own General Mills. However, in my opinion among the three Kellogg is the most attractively valued when I consider the future growth prospects.

The graphs from Fastgraphs.com show us a similar image. Among the three companies General Mills is the only one that may be undervalued from pure valuation perspective. However, when I look at the broader picture I find Kellogg to be more attractive. It is almost as cheap as General Mills but it is also forecasted to grow modestly over the next three years.

Even when I add the valuation to the equation I still find Kellogg to be the most attractive company among the three. Its only disadvantage is the significantly lower dividend yield, and even that is due to the safer dividend and lower payout ratio. I will now look at the growth prospects and risks of General Mills.

Opportunities

General Mills is a highly diversified food company. It's one of the largest food companies in America, and its diversification can be seen geographically and in the product variety. The company operates in growing markets like Latin America and Asia. Moreover, the company sells and distributes many brands, and different types of food. The variety includes frozen food as well as cereals and baking doughs.

The company also seeks growth through acquisition, and it announced in February 2018 that it is going to acquire Blue Buffalo for $8 billion. While the price is on the high side, it does show that General Mills is willing to invest to grow and achieve market share in more profitable products. According to the management we will be seeing more growth through acquisition. I hope we will see acquisition of smaller brands like the strategy exercised by Kellogg.

Another sign for a good opportunity is the fact that Jeffrey L. Harmening, the President and CEO of the company just purchased 6000 shares two weeks ago. Obviously in his position he is very aware to the business situation, and therefore, if he thinks now is a good time to invest $250,000 the company is really attractive, and this is a good entry point.

Source: gurufocus.com.

Risks

Weakest growth forecast. Out of the three companies General Mills offers the weakest growth prospects in the medium term. Analysts are looking at 0%-2% annual growth in the coming three years, and this is lower than the inflation. The expectations are very low, and if it meets them investors probably won't enjoy any price appreciation. It means that in the coming three years, the dividend will be the only reason to own the stock.

The acquisition of Blue Buffalo will raise the amount of debt that company has in its balance sheet. Its credit rating of BBB is not too high to begin with, and the current acquisition will leave the company with less flexibility. It will be harder for the management to deal with troublesome situations as the debt levels will be high. Usually consumer staples can deal with the amount of debt as they don't need to invest a lot in the business. This time it may be a little tighter as the sector is going through a transformation.

Share dilution is another risk. The company showed that it is not afraid to dilute the existing shareholders. The dilution was done to finance the Blue Buffalo acquisition because as I said before, the debt levels are already high. Funding a controversial acquisition by issuing a lot of debt and diluting the shareholders is a rather risky move. If it doesn't improve the bottom line in the medium term, it will be a failure, so the stakes are high.

Conclusions

From a dividend growth investor perspective General Mills is attractive. It offers a safe dividend, that due to some changes in the industry will not grow significantly in the medium term. However, the company is working to achieve top line growth and when it succeeds investors who bought the shares at the current price will have a great yield on cost.

Having said that, I still believe that Kellogg is more attractive. Its valuation when compared to its growth is more attractive, and I prefer its growth prospects. Kraft Heinz is very similar to General Mills as they both offer similar yields and similar problems. If you want to boost your portfolio's yield on cost consider adding to KHC and GIS, and if you are looking for just one position buy some K. Personally, I hope I get the chance to add to all three positions in the coming months.

Disclosure: I am/we are long GIS. K. KHC.

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.