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A couple months ago, I announced an underperform CAPScall on Pilgrim's Pride (NYSE: PPC ) , the second-largest chicken company in the world. And to be honest, that call has done pretty poorly. The stock has beaten the market by nearly 20% since I initiated the pick in January, and, more importantly, the company seems to be resolving many of the problems I was worried about. So was I wrong about Pilgrim's Pride, and I am big enough to admit it?
Well... yes and no.
First the good news. Compared to the same quarter of last year, this quarter was markedly better for Pilgrim's. The company reported net income of $40 million compared to a loss of $120 million last year. Part of that was the result of a 16% reduction in sales, general, and administrative costs -- always something an investor likes to see -- but the real improvement came from gross margin, which clocked in at 5.8%, compared to -2.8% last year.
What makes these results more impressive is that the first quarter is typically the weakest, driven by low chicken breast meat prices. Pilgrim's has traditionally focused on chicken breast meat because it is the highest margin part of the chicken. But aside from a good bump in January, chicken breast meat prices this quarter were mostly the same as last year. The company has lately adopted a strategy of focusing on the whole bird, essentially diversifying its selling points so fluctuations in breast meat prices will be less of a problem. Since 2004, the company has taken significant strides to more evenly balance each part of the chicken as a percentage of revenue, bringing breast meat down from 53% to just 36%, and significantly beefing (chickening?) up sales of wings and leg quarters.
Pilgrim's was also able to reduce its long-term debt by $211.5 million following a highly successful rights offering, as well as prepay a $50 million loan from JBS, the company's majority shareholder, under an arrangement that would also cancel JBS' commitment to loan Pilgrim's another $50 million.
Now the bad news
Pilgrim's significantly improved gross margin this quarter and managed to reduce other operating costs as well, but how does it compare to competitors? Sanderson Farms (Nasdaq: SAFM ) doesn't report until later this month, and Brasil Foods (NYSE: BRFS ) doesn't give segmented results, so any comparison is limited to Tyson Foods (NYSE: TSN ) for now.
Tyson's operating margin in its chicken segment was 5% for the quarter, compared to just 3.3% for Pilgrim's. Meanwhile, Tyson grew chicken sales by 6.3% compared to basically flat sales at Pilgrim's.
As to the debt, it still stands at $1.25 billion, giving the company a debt-to-equity ratio of 1.6, far higher than other chicken producers. The $200 million rights offering helped reduce the debt by a modest amount, but at the cost of diluting shares by 20%. To get the debt-to-equity ratio more in line with industry averages, Pilgrim's would need to pay off another billion or so of its debt, which would be outrageous to do with further share sales.
The Foolish bottom line
It's too early to say if I was right or wrong. Pilgrim's seems to be improving its situation somewhat, but it still lags peers in an already difficult industry. Its debt load is ponderous, and its ability to keep paying it down or even meeting interest payments is far from certain. However, if Pilgrim's meets analyst expectations for the year -- and it already beat them this quarter -- then the stock could be cheap at current prices.