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From Defense to Offense - Why Investors Should Pay Attention to Sara Lee Corp’s Planned Spin-off

February 02, 2012 | About:

At first blush, 2011 was a tough year for stocks. The MSCI Developed Market Index fell more than 5 percent as European markets were roiled by the ongoing EU sovereign-debt crisis. U.S. stocks fared only slightly better: The S&P 500 returned about 2 percent, though dividends accounted for all of this meager gain.

But not all stocks performed poorly last year; 2011’s best performers were generally large-cap, low-beta stocks that enjoyed less volatility than the broad market.

Beta is a measure of a stock’s volatility and correlation relative to a market index such as the S&P 500. Stocks with a beta of less than 1 tend to experience less violent swings in value than the benchmark, while stocks with a beta greater than 1 exhibit more volatility than the market as a whole.

The venerable Dow Jones Industrial Average, an index of the largest US firms by market capitalization, has a beta of about 0.90 and returned 8.4 percent in 2011. The Russell-Axioma U.S. Large Cap Low Beta Index — an index of stocks with betas of less than 1 — fared even better, gaining almost 10 percent last year. Meanwhile, smaller companies in the more volatile S&P 600 Index lagged.

Investors are caught between a rock and a hard place. Yields offered by traditional safe havens such as U.S. Treasury bonds and high-grade corporate debt are near multiyear lows. Meanwhile, ongoing concerns about the EU sovereign-debt crisis and the U.S. economy have made investors reluctant to roll the dice on equities.

That’s given legs to the rally in high-quality, large-cap stocks. In this environment, investors seek out low-volatility names whose underlying businesses can grow earnings even if global economic growth decelerates. Better still, dividend-paying stocks have outperformed pure growth plays for more than two years — a trend that should continue in 2012 because of the paltry yields available in the bond market.

One name that stands to benefit from below-market volatility, meaningful dividend growth potential and specific upside catalysts in 2012 is Sara Lee Corp (SLE).

Best known for its eponymous cakes, Sara Lee Corp is also behind iconic brands such as Jimmy Dean sausages, Hillshire Farms meats, and Senseo and Java Coast coffee products.

For years, Sara Lee was a chronic underperformer that lagged its peers in profitability. The culprit was a lack of strategic focus. Many of Sara Lee’s largest brands are category leaders, but the firm’s portfolio included a number of noncore brands that weighed on profitability.

Like many food and beverage makers, Sara Lee has battled rising commodity costs and shrinking margins in recent years. Furthermore, the company’s hodgepodge of product lines made it more difficult to control supply-chain costs.

Management has taken steps to address these problems. Since 2005, Sara Lee has shed less competitive and non-core brands. For example, the company recently sold its North America-focused food-service coffee and tea business to J.M. Smucker (SJM) in an all-cash deal. Late last year, the firm divested its North American fresh bakery business to Mexico’s Grupo Bimbo (Mexico City: BIMBOA, OTC: GRBMF).

An exciting catalyst could create value for Sara Lee shareholders: The firm plans to split into two companies in 2012. One firm will retain the name "Sara Lee" and the North American packaged food and meats business. The other firm, currently dubbed CoffeeCo, will operate the international coffee, tea and beverages business. This split will make the firm easier to manage by reducing the number of brands and product categories in each company’s portfolio.

The spin-off should be completed in the first half of 2012. Sara Lee shareholders will receive a special dividend of $3 per share. Both CoffeeCo and Sara Lee are expected to pay dividends and retain investment-grade credit ratings.

After the spin-off, both firms could become potential takeover candidates in a sector that has seen its fair share of mergers and acquisitions in recent years.

With a beta of just 0.75, Sara Lee is a defensive stock that also boasts top-notch brands. The company will also benefit from management’s value-enhancing plan to split the firm into two companies.

About the author:

Investing Daily provides stock market advice and investment newsletters to help independent investors achieve a secure and rewarding financial future. The site’s coverage focuses on finding the most profitable emerging trends in the investment universe to bring investors pragmatic and in-depth coverage of the names that are taking advantage of these opportunities.

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