Hormel rises after margin improvement, free cash flow growth

Hormel New York Stock Exchange: HRL Shares have come under intense pressure over the past year due to rising costs, margin challenges and a lack of growth. The situation has raised questions about dividend growth, the long-term outlook for profits and the now put to rest valuation. The first quarter results aren’t stunning, but they reveal the strength of the core business, including volume increases that indicate improved margins over time. Hormel operates in a commoditized industry, and volume is a crucial component of pricing. The greater the demand for a product, the easier it will be to maintain higher prices and maintain or increase margin.

Hormel returns to growth and reaffirms leadership

Hormel reported a solid quarter, revealing that the company is managing a turnaround. Hormel reported net sales of $3.0 billion, up 1% from last year. Growth is modest but exceeds analyst consensus and is supported by volume growth. System-wide, volume is up 4%, driven by strength in critical brands and segments. Bacon, premium products, poultry and snacks all delivered growth and contributed to margin strength.

At a segment level, U.S. retail was the weakest, with volumes up 2% and net sales down 2%. International was contrasted with volume growth of 11% and sales decline of 3%, while foodservice volume increased 8% and sales 9%. The Foodservice and International segments helped the margin. Foodservice segment profit increased 10% and International segment profit increased 1%.

Margin news is mixed but shareholder-friendly. GAAP operating income fell 2% on a 20 basis point reduction in margin, but adjusted margin was up. The bottom line is that the GAAP decline was not enough to offset the 300 basis points of revenue strength, leaving GAAP EBIT up 2% and adjusted 4%. More importantly, cash flow is up 98% and is expected to remain strong this year, so the danger to the balance sheet is minimal.

The guidance is among the catalysts for the post-release stock price rally. The company reaffirmed its guidance for the fiscal year and expects revenue to grow 1% to 3% and adjusted diluted earnings to be midpoint higher than Marketbeat analysts’ consensus. Assuming volume remains high, Hormel’s guidance could be cautious.

Hormel’s improved cash flow generates value for investors

Hormel’s improved cash flow is partly due to the quality of the business and acquisitions made in the previous year. The use of cash resulted in a net increase in the balance sheet and an increase in assets despite the reduction in working capital and inventories. Liabilities are falling and the deficit is narrowing, with solid performance expected this year and next.

The dividend is safe at around 65% of earnings and free cash flow. Since the company is a Dividend King with 67 years of consecutive increases, investors should expect another one at the end of the year. Hormel also repurchases shares to a small extent, enough to reduce the diluted share count by 0.4% year over year.

Technical outlook: Hormel rises and confirms the bottom

Hormel’s share price rose following its first-quarter results, confirming the bottom for this deeply oversold stock. The stock is trading at its lowest levels in five years, presenting a value opportunity for income investors. The stock is trading at the lowest P/E and highest yield over that period and may not provide value for long.

There is a risk that this market will move lower to reconfirm support before reversing, but a reversal is underway. The critical resistance level is near $33.30 and the 150-day EMA. Critical support is near $29.85. Breaking above $33.30 would be a bullish indicator, while moving to $29.85 would be a deep value entry point.

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