Cereal isn’t the juggernaut it once was. Gone are the days when the average American child ate frosted cereals for breakfast before school. The maker of famous branded cereals, Post Holdings (POST, Financial), is not turnings heads these days.
Post is a former subsidiary of Ralcorp and broke off in 2012. Since then, the company has found difficulty growing revenues and profits, while being saddled with a distressingly high debt burden. While Post’s management may have a vision for turning things around, we are skeptical of its ability to execute in a challenging and competitive market.
Today, we dig into the issues facing Post to see if there’s a prize inside, or just crumbs.
Revenues growing, earnings turning positive
On the whole, over the last four years, Post’s financial performance has been a mixed bag of good and middling news.
While revenue grew solidly from 2013 to 2015, growth slowed from 2015 to 2017 and looks to continue into 2018. Revenue grew a very impressive 93% between 2014 and 2015, a hefty jump. Growth slowed, however, to just over 8% the next year and then an even less impressive 4% from 2016 to 2017. Clearly, Post’s revenue expansion plan has hit a several-year snag and they must make strong strategic decisions to right the ship.
A positive figure is that cost of revenue has not be outrageous and revenue growth has outpaced the growth of costs. In particular, on a revenue growth of 8% from 2015 to 2016, cost of revenue only increased 0.15%. The goal for Post would be to keep cost increases similarly very low as they continue to ramp up growth over the next several years.
Further, while gross profit growth has slowed of late, net income has increased every single year. In 2017, Post posted positive net income for the first time since it spun off from Ralcorp. This was due, in large part, to a decrease in interest expense and cutting costs. Net income increased over tenfold from a net loss of $3.3 million in 2016 to a net gain of $48 million, the first positive net income in its short history. That is excellent considering Post was posting a $359 million loss just three years ago.
Troubling debt burden darkens the picture
Post has significant levels of debt and, until recently, they have very significant interest expense on that debt, which has greatly depressed net income. The company historically has chosen to grow through acquisitions (as opposed to natural growth) and it usually funds these acquisitions via a series of debt raising. Many companies finance their growth on debt in the anticipation that massive growth ensues to help pay for the interest expense and then some. This is a perfectly acceptable business practice. The problem with Post is how it has been handling, repaying and managing its debt currently in-house. The company has $8 billion in debt overall, a significant sum when you look at total revenue figures for 2017, which fell below $2 billion. Further, Standard & Poor’s lists Post’s debt as junk. That isn’t exactly a vote of confidence in the company and its efforts.
We see a series of potential problems for Post and its debt. Most significantly, they have acquired a large debt load and are only growing at an annualized rate of, at best, 6%. That isn’t good news. The ratio of operating earnings to interest expense (their most significant expense outside of cost of goods sold), barely reaches 2 timies. Again, not solid.
Can Post grow and pay down its crushing debt burden concurrently? We aren’t so confident.
The cereal business isn’t what it used to be
Overall, trends for the cereal business do not spell positive news for Post in its quest for renewed growth. The company is expanding to other areas of similar grocery store-type products (like eggs and milk), but cereal still makes up a significant (over 30%) part of their business.
Cereal used to be one of the hottest consumer products businesses out there. Now, however, the industry is in a general, long-term and widespread decline that is decades in the making. In many cases, parents are choosing healthier alternatives for their children’s breakfast. Also, the trend of organic, green and earth-friendly foods has cereal on the defensive. Overall, it simply isn’t what it used to be.
Nostalgic for the old times? Post certainly is.
Prizes at the bottom of the box
It would be disingenuous of us not to remark on positive trends for Post, or at least short-term gains for their shareholders. The company recently announced a dividend, albeit a very small one, of 62.5 cents per share. While dividends are obviously pleasant for shareholders generally, in this case it may not be the best move given Post’s high debt burden and low revenue growth. The decision, until more information is available, serves largely to increase our skepticism, rather than alleviate it.
A potentially positive strategic move would be Post’s reported consideration of spinning off its private goods business through an initial public offering. Potentially, this could be part of management’s long-term strategic plan for the company. Bold action is needed for Post to survive, let alone thrive. A spinoff of this segment might prove a strong strategic move.
Verdict
While Post is certainly not all bad news, it is far from all good news either. There is a chance Post can reverse its fortunes and spur growth, but it would rely on bold action and excellent management execution. We are not sufficiently confident in the company’s management team to give them the benefit of the doubt.
Ultimately, Post Holdings offers too much risk for too little gain.
Disclosure: I/We own no stocks discussed in this article
(This article was co-authored by Clyde William Engle Jr., an investment analyst with Almington Capital.)
