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The J.M. Smucker Co. (SJM)Last Update: 29-Apr-09 13:52 ET 
The stock market has had a remarkable rally from its March 6 low, having gained 31% at its recent high. There have been a number of catalysts for the advance, yet the most prominent has been the presumption that the economy is in a bottoming process. That thinking, in turn, has fed the belief that the earnings decline is also in a bottoming process. A wide swath of stocks has participated in the advance, giving life to the expression that all boats rise with the tide. Some boats, however, didn't quite catch the high tide. The J.M. Smucker Co. (SJM 38.95), also known as "Smucker's," is one of those boats. In the same period, shares of SJM have risen "only" 14%. Playing Offense The underperformance is easy to explain. Smucker's has the distinction of being a defensive-oriented issue given its consumer staples orientation. With the market thinking that an economic recovery is in the works then, it has grown less risk averse and hasn't had as much interest in defensive investment ideas like Smucker's. That isn't the only explanation, though. Smucker's hurt its own cause earlier this year when it cut its sales and earnings guidance, citing increased competitive pressure, price declines, the taint for all peanut butter producers -- even unaffected companies like Smucker's -- of a salmonella scare, higher-than-expected marketing costs for the recently acquired Folgers coffee brand, and a higher-than-expected amortization expense. Specifically, the company reduced its FY09 (Apr.) sales guidance from a range of $3.8-4.0 billion to $3.6-3.7 billion. Its earnings per share guidance of $3.15-3.30, excluding non-recurring items, fell comfortably below the consensus estimate at the time of $3.48. More to the Story There is little question that guidance was disappointing. It is also clear, though, that Smucker's remains solidly profitable and in good financial shape. Aided by the successful acquisition of Folgers from Procter & Gamble, Smucker's saw its net sales for the nine months ended Jan. 31 increase 39% and its gross margin improve 70 basis points to 31.7%. However, net income still dipped 1% to $2.30 per diluted share as higher SD&A, amortization, merger costs, and interest expense, along with a 31% increase in the weighted average diluted share count, were offsetting factors. Income before restructuring and merger and integration costs jumped 11% to $2.69 per diluted share. Cash from operations increased 59% to $289 million, which helped drive a $30 million increase in cash and cash equivalents at the end of the period that translated to $3.14 per diluted share. On an even brighter note, the company announced earlier this month that it was increasing its quarterly dividend 9% to $0.35 per share. At the current stock price, the corresponding dividend yield is 3.60% versus a 3.00% yield for the 10-year Treasury note. Deep Brand Roots When it comes to Smucker's, it is easy to identify its brand presence with its namesake fruit spreads. The company's brand roots run much deeper, though. It also owns, or licenses, leading brands such as Jif, Crisco, Hungry Jack, Pillsbury, R.W. Knudsen, and Eagle Brand. With Folgers now in the brand mix, the company has indicated that approximately 75% of projected sales come from No. 1 brands in their category. On a related note, Wal-Mart accounted for 20% of net sales in FY08. No other customer accounted for more than 10% of net sales, but its top 10 customers comprised 53% of net sales. The bothersome connection for some investors in the current environment is that consumers are inclined to trade down to less expensive, private label brands (think generics). Smucker's has not been immune from this approach and, after pushing through price increases last year to battle escalating commodity costs, it has instituted price cuts recently for its coffee, oils, and flour offerings. The biggest private label impact, the company has said, is in its base oil business. Still, Smucker's is well-positioned to benefit from this difficult economic period that has driven a newfound appreciation for saving money. That is manifesting itself in an emphasis on eating at home more. Job security concerns are influencing cutbacks on big-ticket, discretionary purchases, but we suspect consumers, particularly those pulling back on dining out, will still allow themselves more often than not the affordable luxury of buying premium brands to consume at home. A Price Discount The broader market is caught up in the economic recovery story at this juncture, yet we continue to see a real risk of a consumer spending pullback in coming months as the unemployment rate continues to move higher. An emerging trend such as this will reignite broader earnings concerns, which should contribute to Smucker's exhibiting better relative strength than it has since the rally began in March. Even if that isn't the case, though, we think Smucker's represents a good value play for investment-minded individuals with a more conservative orientation. Smucker's has said its long-term target is to produce 6% annual sales growth and greater than 8% earnings per share growth. Analysts estimate it will earn $3.37 in FY10, which is up just 5% from the current FY09 consensus estimate of $3.22. At today's price, SJM trades at a slight discount to its book value and at 11.3x trailing 12-month earnings, which is a 45% discount to its 10-year historical average. Smucker's may sell premium brands, but its stock carries a private label price for bargain hunters. |
