With a brand name like “Smuckers,” how couldn’t you want to eat their products? This “want,” or to some consumers “need,” for Smuckers products says it all about this U.S.-based firm, a leading manufacturer and marketer of peanut butter, jellies, coffee and other food products, many of which have won consumers minds’ as the best products on the market. Smucker’s appeal has been gained in large part due to acquisitions of Proctor and Gamble’s food division divestures and other company purchases. Slowly, J.M. Smucker Company (SJM, Financial) has become one of the largest and top performing players in the worldwide packaged food industry.
SJM operates in three segments: U.S. Retail Coffee, U.S. Retail Consumer Foods, and International, Foodservice, and Natural Foods. U.S. sales account for the bulk of company revenues (75%) and will remain its main strategic focus moving forward. SJM’s main products include coffee, peanut butter, fruit spreads, shortening and oils, baking mixes and ready-to-spread frostings, canned milk, flour and baking ingredients, juices and beverages, frozen sandwiches, toppings, syrups, pickles, condiments, and grain products.
Products are sold mainly through a combination of direct sales and brokers to food retailers, food wholesalers, drug stores, club stores, mass merchandisers, discount and dollar stores, and military commissaries. Walmart (WMT, Financial)Â purchases account for about 27% of company sales, with the next largest 9 buyers accounting for 35% of sales. With supermarkets, warehouse clubs and food distributors continuing to consolidate, we expect that an ever larger percentage of company revenues will be derived from a small but increasingly powerful, number of buyers. We believe this will exert some pressure on margins moving forward. However, we do not anticipate that the impact will be major as strong consumer demand for its brands will require that price and volume negotiations are mutually beneficial.
Overall, the company aims to be the number one brand in each of its respective markets. To accomplish this, it has developed and invested aggressively in its brands, some of the top ones which include: Folgers, Dunkin’ Donuts, Café Bustelo, Millstone and Café Pilon, Smucker’s, Jif, Crisco, Pillsbury, Uncrustables, Eagle Brand, Robin Hood, Carnation, Crisco and many more. The company has had great success over the last few years in revitalizing some of these brands through improved marketing and channel relationships and its success is apparent in its growing gross, operating and net margins.
Financial highlights
SJM continues to produce solid results with the integration and expansion of its peanut butter and jelly businesses going well. That being said, net sales were down 3% in the first nine months of 2015, compared to the first nine months of 2014. This was primarily due to the impact of volume declines in Folgers coffee and Pillsbury baking products offset partially by volume gains in Jif peanut butter, Smucker’s fruit spreads, and Crisco oils. The impact of price changes on revenues was net-neutral as lower sales prices on Jif and Crisco brands offset higher sales prices on Folgers coffee.
Higher overall commodity costs have hurt recent performance results, with gross profits decreasing 3% in the first nine months of 2015 compared to the first nine months of 2014. This was mainly due to higher “green coffee” costs which more than offset lower peanut and oil costs. Overall product price increases were not enough to offset higher resource and ingredient prices and has been the main contributor to the gross profit decline. Foreign currency exchange also contributed to the gross profit decline, though to a lesser degree.
Overall operating income decreased 3% in the third quarter of 2015 compared to the third quarter of 2014. Growth expectations remain moderate over the medium-term with per share earnings expected in the range of $5.65 to $5.80 in 2015 and $6.10 to $6.60 in 2016. The average return on investment for SJM during the last 10 years was approximately 8%, with returns on reinvested capital averaging 14%. The company is required to make moderate capital expenditures on plant and equipment to maintain and grow company operations (averaging 43% of net earnings). SJM has generated strong cash margins, with free cash-flows to sales averaging 10%. And SJM is modestly leveraged, with an adjusted debt-load that would take about 5 years of annual earnings to pay off.
Return analysis
Over the last 10 years SJM's EPS have grown by 142% –Â never with a losing year, compounding at a rate of 9.2%. With EPS of $5.42 in 2014 and a market price of $111.25, it can be argued that SJM is producing an initial rate of return of 4.9%. Over the last 10 years, SJM’s book value per share has grown by 104.6% –Â with 0 declining years and compounding at a rate of 7.4%. SJM's dividend payout rate has averaged 41% over the last 10 years.
Using econometric methods, we project that SJM will have per share earnings of $8.35 in 2024 reflecting growing volume, declining net margins, moderate but stable capital expenditures, and normal share repurchase activities (Figure 1).
Figure 1: Historical and projected earnings per share
If SJM trades at bear multiples, then the market price for the stock in 2024 will be $133.60. If SJM trades at bull multiples, then the market price will be $166.99 (Figure 2).
Figure 2: Target EPS, P/E, projected price and expected holding period return
Based on historical data, in normal conditions SJM trades at 18.8-times earnings. The price of the stock will then be worth $156.56. Bought today at $111.25, SJM would produce a before-tax compound annual rate of return of 3.5% excluding dividends. Assuming dividends remain at current levels, they would generate $27.68 in additional income over the forecast horizon. Added to the price of $156.56 the before tax compound rate of return estimate jumps to 5.2%.
Conclusion
SJM is a very well-run company with a history of generating excellent returns on reinvested capital. In recent years it has demonstrated its ability to acquire and revitalize brands –something Procter & Gamble (PG, Financial) and Multifoods brands were incapable of doing. We expect that management will continue to excel in this area. The company is also becoming more innovative and trendy with its packaging and delivery mechanisms, which should help with shelf space appeal and support margins. We do not think that the recent drop in earnings is permanent and that the firm’s long-term earnings power is well intact. International growth opportunities will also help stimulate earnings. Overall, we think that SJM is a steady and safe firm. That being said, commodity price inflation must be watched, particularly coffee, peanut and oil prices. Investors must also monitor consumer substitution towards generic alternatives. The buying power of Walmart and other mega-buyers must also be watched carefully.
