Thursday, August 25, 2011

Hormel Foods Is Too Rich For My Blood

Hormel Foods (NYSE: HRL), maker of Dinty Moore Beef Stew and Jennie-O turkey products, just posted better than expected earnings. But will it make a hearty meal for your investment portfolio?

If its third quarter 2011 results, reported Thursday, are any indication, the answer is yes. After all Hormel net income for the period was up 15% thanks to solid sales of its grocery items and Jennie-O turkey products and good overseas revenues.

And Hormel beat expectations and raised guidance -- a generally good formula for boosting stock prices. Hormel earned $98.5 million, or $0.36 per share -- that was two cents a share better than analysts expected. Its 10% revenue rise to $1.91 billion beat expectations by $40 million. And Hormel raised its fully year earnings forecast by a few pennies from $1.67 to $1.73 per share to $1.70 to $1.75.

But one good quarter does not necessarily mean you can make money investing in Hormel stock. Here are three reasons such an investment might be good:
  • Good quarterly earnings. Hormel has been able to meet or surpass analysts’ expectations in six of its last six earnings reports.
  • Hormel is out-earning its cost of capital. Hormel is earning more than its cost of capital – and it’s progressing. How so? It produced positive EVA Momentum, which measures the change in “economic value added” (essentially, after-tax operating profit after deducting capital costs) divided by sales. In the first six months of 2011, Hormel's EVA momentum was 2%, based on first six months' annualized 2010 revenue of $6.9 billion, and EVA that rose from $158 million in the first six months' annualized 2010 to $265 million in in the first six months' annualized 2011, using an 8% weighted average cost of capital.
  • Increasing sales and profits and healthy balance sheet. Hormel has been increasing sales and profits. Its $7.2 billion in revenues have risen at an average rate of 5.6% over the last five years while its net income of $396 million has increased at a 8.5% annual rate -- yielding a slim 6% net profit margin. It has no debt and its cash has climbed at a 31.7% annual rate from $172 million (2006) to $518 million (2010).
One reason to hesitate is that it's a very expensive stock. Hormel's price to earnings to growth of 3.61 (where a PEG of 1.0 is considered fairly priced) means it is very expensive. It currently has a P/E of 16.6 and is expected to grow earnings 4.6% to $1.80 in fiscal 2012.

Unless the forecast for 2012 earnings is way too low, Hormel's stock price is way too high. I would wait until the price comes down or the earnings forecast goes up before investing.


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