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Coverage Initiation: B&G Foods, Inc.
B&G Foods (BGS) stock, a newcomer to The Value Line Investment Survey, seems to be one of those equities that for whatever reason has tended to be off the radar for a lot of investors. But the company consistently generates strong cash flow and returns a substantial portion to shareholders. Operating earnings before depreciation and amortization (EBITDA) topped 23% of sales last year, while the food processing industry on average earned more like 10% of sales. And B&G currently carries a dividend yield of around 4.6%, more than twice the average of stocks under our review.
The model is simple, but effective. The methodology is not dissimilar to that employed by private equity firms. B&G buys neglected brands from the large food companies and turns them around. Typically, these are quality products that, because of the former parent's size and scope, have fallen through the cracks and not received the necessary marketing, sales, and development support. B&G rectifies that and has had good success doing so. Indeed, roughly 80% of its products rank first or second (and sometimes both first and second) in their category.
For example, in 2003 when it bought Ortega from Nestlé, it was the only dry goods offering that the Swiss food giant had. It was an outlier in the product portfolio and was not getting sufficient support from the sales team, so Nestlé put the segment up for auction. Since then, B&G has increased distribution of the line of taco kits substantially, allowing it to grow by double-digit rates.
Product innovation is a common theme in B&G’s turn-around playbook. Ortega whole grain taco shells and Polaner sugar free spreadable fruit are two examples of smart innovation in order to address an underserved market. So far, both have been a hit with the growing set of health-conscious consumers. Also, the company took an established product such as Cream of Wheat and reignited it. Through a licensing agreement, it launched a Cinnabon flavored cereal that has so far received very good response. Being innovative also helps the company’s relationship with retailers, which have become increasingly more apt to dedicate shelf space to B&G’s offerings. Products currently in the pipeline ought to add to revenue growth in the coming quarters and years.
The company is relatively immune to cost inflation for now. Indeed, we do not expect rising commodity prices to hurt profits over the intermediate term. First, management appears to have been almost prescient with the timing of its hedging strategy, which combines derivatives and advanced purchases. Given these positions and market expectations for increasing food costs, we would hazard to say that BGS is adequately protected against inflation well into 2012. Additionally, because of the specifics of B&G's product lineup, it is inherently less exposed than competitors to the most expensive commodities.
The company’s ability to generate strong cash flow has allowed it to bring down its debt levels in the last few years. Outstanding debt has been reduced by more than 10% from peak levels in 2006. The balance sheet remains highly leveraged, however, so we believe management will work to lower it in the years ahead. In the meantime, refinancing has lowered the interest expense by one-third, to $40 million.
Finally, we believe B&G has strong long-term expansion prospects. Management is currently focusing on the most lucrative lines with the greatest growth potential. It also looks for further penetration in underrepresented channels, such as the mass market, dollar store, drugstore, and foodservice segments. On balance, we look for double-digit earnings growth over the next 3 to 5 years.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.