Tuesday, 21 September 2010

Food Companies to Satisfy Investment Hunger

BMO Capital Markets recently put out the report It's Not Just About Flavour, It's Good Business Too (download pdf here) in which it says the Canadian food and beverage manufacturing industry "has lots going for it" in economic and business terms. Since everyone has to eat and drink, perhaps in these uncertain times there are steady performers in that industry. How does the food and beverage industry (which excludes beer, wine and hard alcohol companies) translate into investment opportunity? Let's take a look.

1) Finding the Candidate Stocks
Our first stop is a stock screening tool such as GlobeInvestor's, which includes the option to select an industry sector, in this case Food Processing. Your discount broker website will have a stock screening tool too; in BMO InvestorLine's case, it is the enhanced version of the Globe tool. The search pulls up 21 securities, of which five are preferred shares (symbols with .PR) or debentures (symbols with .DB) and one, Menu Foods (MEW.UN), produces pet food, so we eliminate them, leaving us with 15 common stocks.

2) Companies with Consistent Profitability
Our next step is to find the companies that are consistently profitable. To do that, we go to the Toronto Stock Exchange's investor website TMX Money and:
  • type in the stock symbol for each of the 15 candidates, then
  • click on the Financials tab and
  • pick the Income Statement and Annual View from the drop down menus
TMX shows the most recent five years of results. We select only those companies where there has been a profit i.e. whose Net Income has been positive, for at least the last four years. That leaves us with six companies. One of them - High Liner Foods - has two classes of shares, the HLF.A being non-voting equity shares, so we will consider them together:
  • Rogers Sugar Income Fund (RSI.UN) - refines, processes and distributes sugar in Canada
  • High Liner Foods (HLF and HLF.A) - processes and markets prepared frozen seafood
  • Lassonde Industries (LAS.A) - processes and markets fruit juices, drinks, wine, sauces, soups and beans, and specialty food products such as canned corn-on-the-cob, fondue broths, bruschetta toppings and tapenades
  • Premium Brands Holdings Corp (PBH) - manufactures, markets and distributes branded consumer food products across Canada and the Western United States
  • Canada Bread Company Limited (CBY) - manufactures and markets flour-based products in various markets, including fresh bread in Canada, frozen par-baked bread in the U.S. and Canada, specialty bakery products including pasta and sauces in Canada and bagels in the U.K.
  • Saputo Inc (SAP) - produces and distributes dairy and grocery products, including cheddars, specialty and fine cheeses, as well as mozzarella, dairy products, such as fluid milk, flavoured milk, cream, yogurt, butter and sour cream
3) Profitability, Growth and Value
A quick initial indicator of potential value is a stock's Price to Earnings (P/E) ratio. All of our profitable companies exhibit a much lower P/E than the 20.4 average of the TSX Composite (as of Sept.17th close of business). That is encouraging for our candidates.

There are other promising indicators as well, such as the rapid profit, revenue and Earnings Per Share (EPS) growth of all but Rogers Sugar. The 1-year Return on Equity (ROE) and Return on Assets all look reasonable, though Lassonde and Saputo shine brightest.

4) Safety
There is a bit more differentiation between the companies on these measures as Rogers Sugar and Premium Brands look much weaker on the amount of debt they carry, as expressed in the higher debt/equity ratio, and the consequent much lower coverage for their interest costs.

Similarly, the very high dividend payout percentage (as a % of Earnings) of these two companies is much less reassuring than the situation of the other companies. Perhaps this is a factor in the Financial Post report on a BMO Capital Markets prediction that Rogers Sugar Income Trust will reduce distributions upon conversion to a corporation.

5) Returns and Market Sentiment
It appears that it is not only BMO Capital Markets and this blog paying attention to the best of the Food Producers. The market loves these stocks. 1-year price returns on five of our six stocks (CBY being the odd one out) have outstripped the TSX Composite by a huge margin as the graph from Google Finance (link to live chart) shows.

For all except CBY, that 1-year return is far above that of their peers in the industry (see the 1 Yr O/U Median Industry Rtn column). A couple of them (RSI.UN and HLF) even provide a higher dividend yield than the TSX's 2.7%.

Analysts love most of these stocks too - three have the best five-star rating (HLF, LAS.A and SAP) - and two garner four stars (RSI.UN and PBH).

6) Past vs Future Returns
Past performance is impressive but what really matters is whether the good performance will continue. Have these stocks played out their rise?

The low P/E ratios suggest more catch-up to the market average is possible. And the professional analysts seem to feel there is still upward potential for several of our candidates, as seen in the Strong Buy rating for HLF and PBH and the Buy rating for CBY and SAP, and in the higher projected 12 month stock prices. (Note however, that analysts can be wrong, as we wrote about in Stock Market Analysts: add Salt and Pepper.)

The Food sector appears to hold potential. But the investigation process isn't complete. To get a view of the future and make a decision as to whether to invest would require delving into the companies' financial and management reports on their websites, reading the news about them, examining insider trading (see Insider Trading: Using It to Get and Edge, Legally of Course) and getting a sense of what could propel further growth in revenues and earnings, since that is what will eventually determine stock price and the ability to pay increasing dividends.

Disclaimer: this post is my opinion only and should not be construed as investment advice. Readers should be aware that the above comparisons are not an investment recommendation. They rest on other sources, whose accuracy is not guaranteed and the article may not interpret such results correctly. Do your homework before making any decisions and consider consulting a professional advisor.

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