Investors hungry for dividends can look to the food and beverage industry. Many companies that feed their customers also feed their shareholders with dividends. But as always, investors need to carefully assess the sustainability of a company’s dividend payout before buying a stock.
While high dividend yields are enticing on the surface, they can give investors a great deal of heartburn if the underlying company has too much debt or deteriorating profits. One of the worst outcomes for an income investor is for a company to cut its dividend. Not only does this result in less dividend income, in most cases the stock price also drops.
For this reason, stocks with abnormally high dividend yields can sometimes be a sign of trouble. This appears to be the case with B&G Foods (BGS, Financial), which has an attractive 8% dividend yield. But underneath the surface, B&G is flashing warning signals that indicate the dividend is not sustainable at the current level.
Business Overview and Recent Events
B&G Foods is a holding company in the food and beverage industry. Its predecessor company was founded in 1889 to sell pickles, relish and condiments. Today, it has a portfolio of over 50 brands. Some of its core brands include Green Giant, Mrs. Dash, Ortega, Snackwell’s and Cream of Wheat. B&G has employed an aggressive acquisition strategy over more than 20 years. It acquired 29 brands since 1997. Today, B&G’s portfolio focuses on shelf-stable frozen and snack foods. B&G stock has a market capitalization of $1.5 billion.
B&G reported fourth-quarter and full-year 2018 financial results on Feb. 26. It was a disappointing report as the company missed both revenue and earnings-per-share estimates for the quarter. Adjusted sales increased 1.6% to $462.6 million, but diluted earnings per share decreased 12.8% to $1.70 on a year-over-year basis. Most of B&G’s core brands reported sales increases. Green Giant increased sales 4.9%, Ortega increased sales 7.2%, Cream of Wheat increased sales 4.3%, New York Style increased sales 8.8% and Maple Grove Farms increased sales 2.8%.
For 2018, B&G reported a net sales increase of 3.3% to $1.7 billion, due to an increase in volume and pricing. Green Giant increased net sales 12.7% showing strength all year. For the year, net sales of Ortega increased 2.9%, Cream of Wheat increased 2.8%, New York Style increased 4.7% and Victoria increased 2.8%.
However, while B&G enjoyed top-line growth, the bottom line showed declines. Adjusted earnings per share declined 40% in the fourth quarter and 13% for 2018. Adjusted Ebitda declined 6% in 2018. The culprit for the declines in profitability was cost inflation. B&G noted elevated input and freight costs last year that it was unable to fully offset with price increases and cost reductions.
The good news for B&G is that these pressures are expected to reduce somewhat in 2019. B&G management has set guidance for adjusted earnings per share in a range of $1.85 to $2.00 for 2019, compared with $1.85 per share in 2018. Using the midpoint of company guidance, earnings per share is expected to increase 4% for the current year. However, B&G’s dividend sustainability is in question.
Dividend analysis
As mentioned previously, B&G’s growth strategy over the past several years was to acquire smaller brands, then scale them and gradually raise prices. This helped create substantial growth for many years. But the downside of this model is that it has left the company with a great deal of debt. B&G ended 2018 with long-term debt of $1.63 billion on the balance sheet, compared to just over $11 million in cash and cash equivalents on hand.
B&G had a net-debt-to-adjusted Ebitda ratio of approximately 5.0x at the end of 2018, which indicates relatively high leverage. This could be especially problematic in a rising interest rate environment, as debt would become more costly to finance. B&G’s interest expense rose 18% last year, and represented 34% of adjusted Ebitda in 2018.
The company reduced long-term debt last year by $582 million, which is a good step toward improving the balance sheet. Further plans are in store for deleveraging, which will be accomplished in large part through asset sales. In the fourth quarter, B&G completed the sale of its Pirate Brands business to Hershey (HSY, Financial) for $420 million in cash. The company can use this to pay down additional debt, but the downside of asset sales is that it will further reduce sales and potentially earnings per share.
Lower earnings per share could threaten the dividend, as B&G currently pays a dividend of $1.90 per share, and the company has set earnings per share guidance of $1.85 to $2.00 for 2019. At the midpoint of guidance, earnings per share of $1.925 represents an expected 2019 dividend payout ratio of 98.7%, meaning B&G’s dividend is expected to be barely covered by earnings per share this year. The dividend is under further pressure from the overleveraged balance sheet, as the company could decide to make debt reduction a priority and lower the dividend to help accelerate these efforts.
Final thoughts
Investors should approach high-yield stocks with caution. High dividend yields are of little value for investors, if the dividend is not sustainable and ends up being cut. Fellow food stock Kraft Heinz (KHC, Financial) recently cut its dividend, which resulted in a large drop in the share price. There is a chance that B&G could follow suit, as it is experiencing many of the same issues that forced Kraft’s hand, including too much debt, declining earnings per share and a high dividend payout ratio.
There are many high-quality food stocks that investors can buy for dependable growth and a reliable dividend. Not many have as high of a dividend yield as B&G, but investors should be willing to trade a lower yield for dividend growth and sustainability.
Disclosure: I am not long any stock mentioned.
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