So, it looks like dull-as-dishwater Del Monte Foods (NYSE: DLM) is finally spicing things up a bit. Of course, action just for the sake of action doesn't really build value for shareholders, so we'll need to look a little closer to see whether selling its private label soup and infant feeding businesses and buying Meow Mix is really going to help investors.
But before we go there, let's look back at the quarter that was. Sales were up 2%, operating income was flat, and income from continuing operations was up about 7%. Sad to say, that's pretty good performance for this company.
The bigger news, though, is the asset purchase and sales announced with the earnings. There had been rumors for a while that the company was looking to sell the soup and infant businesses and those proved to be true -- Del Monte Foods will be selling them to TreeHouseFoods (NYSE: THS) for $268 million in cash.
And with that cash hot in their hands, management is turning around and buying the Meow Mix cat food business from a private equity group for $705 million. With the Meow Mix business having produced about $250 million in revenue last year, that price is about 2.8 times sales. Now, I realize price-to-sales isn't great as a means of valuation and there aren't any pure-play pet food companies to compare it to, but that multiple seems rich compared to the packaged food industry in general.
On one hand, the deal makes a lot of sense. After all, the pet products business seems to be the part of Del Monte Foods that management is actually doing a good job running, so you could look at it as augmenting a strength. It's also true that the pet food business is somewhat fragmented and that this deal might make the company a better competitor relative to the likes of Nestle (Nasdaq: NSRGY).
Then again, this is a company with a historically poor record of returns on invested capital. And when you see a group of people unable to earn satisfactory returns on a given pool of capital, does it make sense to increase that pool of capital?
I'll try to be optimistic here. After all, this company produces quite a bit of free cash flow, so as long as that cash generation ability isn't damaged, there should be some support here. I can appreciate the appeal here for value hounds, but I'd keep a careful eye on the business, lest you end up eating cat food yourself.
For more Foolish food for thought:
Fool contributor Stephen Simpson has no financial interest in any stocks mentioned (that means he's neither long nor short the shares).
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