Wednesday, October 24, 2012

Campbell Soup Delivers Weak Results

Campbell Soup Company $CPB is one of those stocks that is trying very hard to dispel the idea that revenue and earnings growth are what drives stock prices. In essence, the company is not doing very well operationally but it is doing very well in the ugly sisters’ beauty contest of stably high yielding stocks. This is what the market wants right now and who am I to argue? That said I do happen to believe that earnings are really what matters and it was another mixed quarter for the company.

Earnings Up or Down?

Net earnings rose 29% to 40c in the quarter but adjusted net earnings fell 5%. Moreover, gross margins slipped again this quarter and the familiar explanation of higher cost inflation and promotional activity was cited. So while Campbell has declared that fiscal 2012 was a year of investment, investors should not conclude that this was purely going for growth strategy. The company needed to halt declines in certain areas and revamp product lines.

A look at segmental sales.

Only US Simple Meals and US Beverages recorded year on year sales increases. Negative currency effects did take growth away from Global Baking and International Simple Meals but the organic sales growth in these segments was only 2% and 1% respectively.

The standout performer was US Simple Meals within which soup sales finally got back to sales growth with a respectable 9% increase. Condensed soup sales rose 14% while ready-to-serve increased 1%.

However, even this comes with caveats. Firstly the company outlined that much of this came from movements in retailers’ inventory. Soup has been strangely volatile category over the last year, so it wouldn’t be surprising if some retailers had had jump changes in inventory levels. This just seems like a quarter where Campbell benefited.  Secondly, product revamping, promotions and introducing new flavors in order drive sales comes at a price.

Here are the segmental movements in earnings for the quarter.

It’s not a pretty picture.

Industry Challenges and Opportunities

Campbell is operating in a tough environment right now. Footfall is down at traditional groceries and consumers are spending less per trip. Even worse, customers continue to increase their grocery shopping at discount retailers. Even a company like private label manufacturer Treehouse $THS is suffering because its traditional customers are seeing their in-store brands challenged by the rise of sales in the ‘alternate’ channels. In response Treehouse is shifting its company more towards these channels.

H.J. Heinz $HNZ recently reported some average looking results but it has the growth kicker of emerging market growth. Moreover, it is hard to tell how much of Heinz’s growth is coming from its nutrition segment. A sector that Campbell doesn’t participate in.

I would put Campbell in a category of stocks like General Mills $GIS  and Conagra $CAG. In other words, they are facing similar problems but they all generate good cash flow, pay relatively high dividends but have low single digit growth prospects. I hold some Conagra purely because I like the yield and it has some value brands that I think can see good prospects in the age of austerity. General Mills is facing some competitive issues in breakfast cereal and it is generating little growth elsewhere.


Where Next For Campbell Soup Company?

Frankly I don’t think it is going to get any easier, anytime soon. The guidance is for 10-12% revenue growth. This sounds great but around 9.5% of that is likely to be due to the Bolthouse acquisition. The underlying organic growth of 1-2% coupled with declining margins is hardly anything to get excited about and I think Campbell may have problems with soup when it cuts back its promotional activity.

That said, investors buy stocks for all different kinds of reasons and there is no doubt that stable companies with high dividends are sought after in the current climate. GARP based investors like me may baulk at buying Campbell but as part of a high yield portfolio the stock may have a place.