Overvalued Hormel (NYSE:HRL) Pulls Back But It’s Too Soon To Buy

Dividend King Hormel Raises The Dividend Less Than Expected

Hormel Foods (NYSE:HRL) reported a decent 3rd quarter and yet shares are down more than 5.0% on the news. For those wondering why there are three primary factors in play that will eventually lead to another buying opportunity. The first is the value. Hormel, going into the 3Q report, was trading close to 30X its earnings and was among the most highly valued consumer staples on the market. This compares to more reasonable valuations for the likes of Kraft-Heinz (NASDAQ:KHC), General Mills (NYSE:GIS), and Conagra Brands (NYSE:CAG) all of which trade closer to 15X earnings.

The second is the analysts. The analysts have been lowering the earnings targets for months leading into the report and the company missed the consensus by a small margin. That’s not good in a world where the average S&P 500 company is beating consensus by double-digits. The third is the dividend. Hormel was expected to increase the dividend this quarter and it did, but by a much smaller margin than expected. The 5-year CAGR and balance sheet supported a double-digit distribution increase and we got about a third of the expectation or two-thirds less than what the market priced in.

Hormel Whiffs On U.S. Foodservice Decline

Hormel reported what would have been a great 3rd quarter if not for the U.S. foodservice segment of the business. The U.S. foodservice segment saw its revenue contract -24% versus an expected improvement from the 2nd quarters -19% impacting all food segments and margins. On the top line, revenue came in at $2.42 billion or down -3.2% over last year’s fiscal 4th quarter. Revenue missed the consensus by $0.180 billion or nearly 800 basis points on a -3.0% decline in organic volume compounded by lower pricing for some items. On a sequential basis, sales are up 1.6% versus the nearly 10% projected by the analysts and at the highest level of the year.

On a segment basis, grocery sales fell by -1.0%, refrigerated products by -5.0%, Jennie-O-Turkey Store by -6.0%, and all offset by a 6.0% increase in international sales. In the U.S., the U.S. retail segment grew a solid 7.0% but the strength was not enough to offset the drop in foodservice sales. Moving down the report, margins contracted by 110 basis points or about 40 bps more than consensus. On the bottom line, adjusted earnings contracted 8% to $0.43 to miss the consensus by $0.02.

Looking forward, the company did not offer any formal guidance but did say it expects to return to revenue and EPS growth in fiscal 2021. The company is planning about $350 million in CAPEX aimed at bolstering high-growth brands. Plans include expanding sausage and pepperoni capacity as well as Project Orion. Project Orion is a company-wide ERP effort involving a switch to the Cloud along with rooting out growth opportunities.

Hormel Is A Dividend King, But Wait For Prices To Find A Bottom

Hormel is a Dividend King with 55 years of consecutive annual increases. That alone is enough to believe that future increases are coming, the question is how big will they be? The company just announced the 55th increase and it was not as big as I expected. The increase is worth about 5% compared to the 15% CAGR bringing the payout to $0.98 annually or about 2.0%. At face value, the payout is about 55% of earnings and the balance sheet is a fortress so there could have been a larger increase. That said, free-cash-flow contracted sharply in the quarter and may have played a part.

Moving on to the charts, shares of Hormel are down hard following the release but that is a good thing for those looking to get in. Shares are down more than 10% from the recent peak bringing the valuation to more reasonable levels. Even so, trading at $47 the stock is still valued at a high 25X earnings and overvalued relative to others in the group. Kraft-Heinz, for one, is not only trading at a deep discount to Hormel but it is also paying a much higher 5.25% yield. In the near-term, I would expect to see prices continue to fall until prices come back into line with the broader market.