INVESTMENT THESIS
The J.M. Smucker Company (NYSE: SJM) following the company’s fiscal 2Q21 results. While Smucker has benefited from consumer stockpiling and increased at-home consumption during the pandemic, management has admitted that growth at current levels is not sustainable. Despite a strong fiscal first half, we expect sales to decline in the second half given the planned sale of the Crisco business and reduced at-home consumption as vaccines and other therapies diminish the impact of the pandemic. We also expect margin pressure due to increased marketing spending and higher capital expenditures. Over the long term, we anticipate lower pricing (notably for coffee and peanut butter), increased competition, and continued challenges in the premium dog food business.
RECENT DEVELOPMENTS
The beta on SJM is 0.24.
Smucker Company recently reported fiscal 2Q21 results that topped analyst expectations. The company reported 2Q net revenue of $2.0 billion, up 4% from the prior year. Adjusted EPS rose 6% to $2.39 and exceeded the consensus estimate of $2.23. The adjusted gross margin improved 20 basis points to 38.7%.Adjusted net income was $273 million, up 6% from the prior year. Free cash flow increased 104% to $326 million.
SJM recently agreed to divest the Crisco oils and shortening business. It expects to complete the transaction in the third quarter, with an estimated $100 million impact on sales and a $0.20 impact on EPS over the remainder of the year.
Management has revised its FY21 guidance to reflect the strong first-half results. It expects net sales to be up 1%-2% after previously projecting flat to 1% higher sales. It also expects adjusted EPS of $8.55-$8.85, up from a prior $8.20-$8.60. These projections do not include the impact of the Crisco divestiture.
EARNINGS & GROWTH ANALYSIS
SJM has four segments: U.S. Retail Coffee, U.S. Retail Consumer Foods (24%); U.S. Retail Pet Foods (35%); and International and Away from Home (12%).
In the U.S. Retail Coffee segment, net sales of $595 million rose 9% from the prior year, driven by increased at-home consumption. The Dunkin’ and Cafe Bustelo brands both posted 20% sales growth and K-Cup sales rose 15%. Segment profit rose 11% to $202 million, reflecting a favorable product mix and lower costs. The segment profit margin rose 40 basis points to 34%.
In U.S. Retail Consumer Foods, net sales of $479 million rose 12%, driven by at-home consumption of Uncrustables frozen sandwiches, Crisco oils, and Jif peanut butter. Segment profit rose 48% to $135 million, reflecting favorable pricing, an improved product mix, and lower costs. The segment profit margin rose 670 basis points to 28.2%.
In U.S. Retail Pet Foods, net sales were flat at $709 million, reflecting higher sales of cat food and dog snacks, offset by lower pricing and a weaker product mix in the dog food business. Segment profit fell 9% to $125 million amid higher marketing spending for the Nutrish brand. The segment profit margin fell 170 basis points to 17.6%.
In International and Away from Home, 2Q net sales of $252 million fell 10% and segment profit fell 22% to $40 million due to reduced travel during COVID-19. The segment profit margin fell 240 basis points to 15.7%.
Adjusted gross profit rose 4% to $787 million and the gross margin rose 20 basis points to 38.7%, reflecting manufacturing leverage from increased volume and higher pricing. Adjusted operating income rose 5% to $409 million and the operating margin rose 10 basis points to 20.1%. Selling, distribution and administrative costs grew 6% and were 19% of sales, reflecting higher compensation expense, including incentive compensation.
We expect the continuing impact of the pandemic to offset the divestiture of Crisco. Our estimate is within management’s guidance of $8.55-$8.85. We are lowering our FY22 EPS forecast to $8.26 from $8.64, implying a decline of 6% from our FY21 forecast to reflect the Crisco divestiture and the likely lifting of COVID restrictions.
FINANCIAL STRENGTH & DIVIDEND
SJM has substantial long-term debt of $4.9 billion. After a $216 million debt reduction during the quarter, Smucker’s leverage ratio was 2.8-times, below its target of 3.0.
SJM generated $379 million in cash from operating activities in 2Q21, up 69% from the prior year. Free cash flow was $326 million, compared to $161 million a year earlier. The company indicated that it will use cash first to reduce debt and pay dividends.
SJM pays a dividend. It raised its quarterly payout by 3.5% in September 2019 and by 2.3% in August 2020.
MANAGEMENT & RISKS
J.M. Smucker Co. is a family-controlled business. Mark T. Smucker became the fifth-generation family president and chief executive in May 2016. He succeeded his uncle, Richard K. Smucker, who had been CEO since 2011 and Co-CEO since 2001. The company faces significant commodity price risk. It requires large quantities of agricultural products and other commodities whose costs may fluctuate due to weather, natural disasters, political unrest, and other situations beyond the company’s control. SJM uses a single national broker to sell many of its products to retail grocers, and sales could be hurt if this broker fails to adequately represent the company. Many of its products, including coffee, food spreads, Milk-Bone dog snacks and Uncrustables sandwiches, have only a single manufacturing site, and disruptions at these sites could negatively impact revenue. The company also faces customer concentration risk.
Smucker’s has faced frequent product recalls in its Consumer Foods and Pet Foods divisions, due in part to its failure to control vendor relationships.
COMPANY DESCRIPTION
Founded in 1897, The JM Smucker Co. is a leading manufacturer of food and beverage products. Its primary products include coffee, peanut butter, fruit spreads, pet food, and pet snacks. Major brands include Folgers, Dunkin’ Donuts, Cafe Bustelo, Jif, Smucker’s, Uncrustables, Meow Mix, Milk-Bone, Natural Balance, Nutrish, Kibbles N Bits, and 9Lives. Based in Orrville, Ohio, the company has approximately 7,700 employees.
VALUATION
We believe that this valuation adequately reflects the company’s current growth prospects and that a HOLD rating is appropriate.
On November 27, HOLD-rated SJM closed at $116.50, down $1.50.
Source: Argus
