Buy Dean Foods: The Spin-Off And Segment Sales Warrant Upside

| About: Dean Foods (DF)

Dean Foods (NYSE:DF) operates in the dairy products and beverage industry. The company operates under three divisions: Fresh Dairy Direct, WhiteWave-Alpro and Morningstar. The company's shares were up 5% yesterday and 13% the day before because of news that the WhiteWave-Alpro segment was going to be spun off as a separate company through an IPO, which would raise the much-needed amount of $320 million to improve leverage. We recommend buying DF to benefit from the IPO and better operational results that are expected from all segments of Dean Foods' business.

WhiteWave-Alpro's IPO will raise cash for Dean Foods that can be used to pay off debt. The IPO will consist of a 12% share of WhiteWave shares, while Dean Foods will hold the majority 88%. Twenty million Class A shares are to be issued at an expected $14-$16/share. This means that the company can raise $320 million. DF can then transfer the 88% or part of it to its shareholders as well by a tax free spin off. WhiteWave-Alpro has a profitable portfolio consisting of organic and natural food and beverage brands. According to the preliminary Q3 results for WhiteWave-Alpro, sales are expected to be up by 13%. The growth is driven by higher volume of sales for coffee creamers and beverages, and due to increased marketing and new products. The operating income is going to be up by 22%, according to the company.

Dean Foods is also reported to be looking for a buyer for its Morningstar segment, which is expected to result in a $1 billion deal. Some private equity firms are said to be interested in the smallest division of DF's business. This division sells private label products and those under the Friendship brand name, and to retailers and food service providers; it also has lower margins.

The company continued its history of an earning beats with its Q22012 results released in August. The company reported EPS of $0.36 (twice the Q22011 EPS of $0.18) on the back of revenues of $3.1 billion. The stock price went up by $4.29 two days following the earnings. Q2 saw operating income rise for all of the company's three segments; 41% for Fresh Dairy Direct, 31% for WhiteWave-Alpro, and 19% for Morningstar. Cash flows improved with the free cash flows more than doubling from last year ($143 million from $60 million last year). The Q3 results are expected on November 8th. The company had guided to Q32012 EPS within the $0.25-to-$0.3 range. The full fiscal year 2012 guidance for the company was raised to $1.18-$1.28/share. Analysts now expect 0.28/share and $1.22/share, respectively. The company expects continued strong performance from all its segments to continue in Q3.

The company has total debt of $3.65 billion. The operating cash flow (trailing twelve months) is $508 million. Thus, the IPO and Morningstar sale can help a lot with regards to debt. The interest coverage ratio is 0.93, which means the earnings fall slightly short of covering interest payments. The quick ratio is 0.79, while the current ratio is 1.13.


UBS' analyst had recently reduced DF's price target from $17.5 to $15.5, with a neutral rating on the stock. BMO Capital Markets had upgraded DF to an outperform rating in September, with a $21 target price.

The company has a forward P/E of 13x. The mean target price is $19, which means a 12% upside. The valuations at the forward P/E multiple are as follows:

*2014 EPS is calculated by applying 19% next 5-year growth rate estimatea on 2013 earnings.

Dean Foods, with the expected strong growth at WhiteWave-Alpro along with its IPO, a possible sale of Morningstar, and a stable Fresh Dairy Direct business, looks promising to us. Therefore, we recommend investors to buy DF.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by Qineqt's Retail Analyst. Qineqt is not receiving compensation for it (other than from Seeking Alpha). Qineqt has no business relationship with any company whose stock is mentioned in this article.

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