Like many consumer staples stocks, Conagra Brands Inc. (CAG, Financial) has seen surging growth in its business that is directly tied to the Covid-19 pandemic. With consumers having limited dine-in eating options due to social distancing restrictions since early last year, more meals have been consumed at home.
The benefit from this occurrence is seen directly in Conagra's results. Sales are higher by an average of almost 15% over the past three quarters while earnings per share have increased by 59% during this same period of time. These results since the start of the pandemic show that consumers are flocking to Conagra's products.
This type of growth is playing out in many consumer staples, but many of those stocks are seeing corresponding share price gains. Conagra is not as shares of the company have declined 9.8% over the last six months while the Consumer Staples Select Sector SPDR Fund (XLP, Financial) is higher by 10%. Conagra is clearly underperforming its peer group.
Despite this, I continue to believe that Conagra could be a solid investment given its business performance and its valuation.
Earnings results
Conagra reported second-quarter earnings result for fiscal 2021 on Jan. 7. Revenue grew 6.2% to $3 billion, which topped Wall Street analysts' estimates by $20 million. Earnings per share increased 18 cents, or 28.6%, to 81 cents. This was 7 cents higher than expected.
Organic sales improved 8.1%, with each retail segment showing strong results. The divestiture of the company's Direct Store Delivery business negatively impacted results by 1.7% and foreign currency exchange was a 0.2% headwind. Company-wide volumes were 6.6% higher while better pricing and mix added 1.5% to results.
The grocery and snack segment grew 12.5% to $1.3 billion. Organic sales were higher by 15.3%, primarily due to a double-digit improvement in volumes. This segment followed up the first-quarter's 21% organic growth with another strong performance as consumers continued to eat more at home due to Covid-19 restrictions. Leadership cited Orville Redenbacher's, Swiss Miss, Snack Pack, Rotel and Hunt's as standouts in the quarter.
Adjusted operating profit for the segment was up almost 17% at $319 million due to volume gains, supply chain performance and cost synergies from the Pinnacle Foods acquisition.
The refrigerated and frozen segment grew 6.8% to $1.2 billion. Organic sales were up almost 8% due largely to a 6.4% increase in volumes. This segment also benefited from lower promotional activity, which helped lead to a 1.4% improvement in pricing. P.F. Chang's, Hebrew National and Birds Eye were among the top performers as consumers turned to brands such as these during the quarter.
Adjusted operating profit was up 25.6% to $272 million as organic sales growth and cost synergies from the Pinnacle Foods acquisition more than offset raw material inflation, higher transportation costs and pandemic-related expenses.
Revenue for the international segment grew 6.6% to $250 million. Organic growth of 9.1% was offset by a 2.5% headwind from currency exchange. Volumes were up 6.4% while pricing and mix was up 2.7%. Growth in Canada and Mexico was especially strong.
Adjusted operating profit was higher by 48.4% as higher input costs and foreign exchange only slightly offset organic sales, product mix and supply chain improvements.
Foodservice was the lone segment to decline compared to the previous year as sales fell 23.1% to $212 million. Organic sales decreased more than 21% as restaurant traffic was down considerably to $22 million. This is not surprising as social distancing restrictions remain in effect in many of the areas that Conagra services. As a result, operating profit was down almost 42%.
The improvement in top and bottom-line numbers positively impacted margins. Gross margins increased 139 basis points to 29.7% while adjusted operating margins climbed 250 basis points to 19.6%. Costs were well controlled as expenses fell 3.3% to $358 million.
Conagra is also taking steps to clean up its balance sheet. The company has reduced its total debt by $2.3 billion since closing on the Pinnacle Foods acquisition in 2018. The company had total debt of $9.3 billion at the end of the most recent quarter. Debt due within the next year is less than $1 billion.
The company is expected to earn $2.56 in fiscal 2021 according to analysts surveyed by Yahoo Finance, which would be a 12.3% increase from the previous fiscal year.
Conagra is taking steps to improve capital returns to shareholders. After distributing the same dividend for 13 consecutive quarters, the company raised its distribution by more than 29% for the Nov. 2, 2020 payment and yet the payout ratio looks to be in solid shape. The annualized dividend of $1.10 results in a payout ratio of just 43% using analysts' estimate for the fiscal year. This is below the 10-year average payout ratio of 46%. Shares currently yield 3.4%, which is more than double the average yield of the S&P 500 index.
Conagra expects third-quarter organic sales growth in a range of 6% to 8%. The company also confirmed its expectation of adjusted earnings pers share of $2.66 to $2.76 for fiscal 2022.
Shares of Conagra currently trade for $32.68. Using earnings estimates for the current fiscal year, the stock has a forward price-earnings ratio of 12.8. Conagra has traded with an average price-earnings ratio of 16.2 over the last 10 years. The company continues to perform very well, but the market doesn't appear to have caught on to just how well yet.
The stock also looks undervalued compared to its GF Value.
GuruFocus assigns a GF Value of $35.96 for the stock, which gives Conagra a price-to-GF Value of 0.91 at the moment. The stock would return 10% if it were to reach its GF Value. Add in the dividend yield and shareholders could be in line to see a total return of at least a low double-digit percentage.
Final thoughts
Conagra's most recent quarter showed that its products remain in high demand amongst consumers. Three out of four business segments performed very well, with each showing strong organic sales and adjusted operating profit growth. Conagra hasn't participated in the consumer staples rally, but the stock continues to trade below both its own historical valuation as well as its GF Value Line. For those investors looking for a consumer staple that has double-digit total return potential, Conagra could be an excellent investment opportunity.
Disclosure: The author has no positions in any stocks mentioned in this article.
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