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The food industry is typically known as a low margin, high volume business. When a company is able to break out of that mold, however, it can be very profitable for the business and its shareholders. Many of us know this to be true with the king of high margin food sales -- Whole Foods Market. Now, a recent spin-off from an age-old food producer offers investors a pure play on the natural, organic, healthy food movement that commands higher prices and boosts bottom lines. If all goes according to plan, it can boost your portfolio, too.
A household name
In terms of food essentials, there are few names more recognizable than Dean Foods (NYSE: DF ) . The company has been around since 1925, and made itself a common household name, mainly with its dairy products. While the food business, as mentioned, is a difficult one, Dean Foods has managed to prosper. In its second quarter, diluted EPS doubled, based on strong gross profit growth and improved margins. Dean Foods has struggled with its debt load, but a $196 million decrease in the second quarter was an encouraging sign of a management team actively working on the issue.
The company operates a few different divisions. Besides the Dean Foods label, the company also operates Fresh Dairy Direct, Morningstar Foods, and WhiteWave-Alpro. The first is self-explanatory -- a typical low margin dairy business supplying grocers with branded and private-label goods. Morningstar produces dairy products, as well, though a bit more specialized, and aimed toward restaurant sales. Their products include creamers, ice cream mixes, cultured dairy products, and other dairy-based items.
As recently as the end of last month, Dean Foods was exploring the idea of selling Morningstar to the highest bidder. While Dean isn't the subject of this article, a well-conceived sale could help unlock value for the $3 billion parent company. Morningstar should be an attractive buy, as it is a cash flow rich business with a great history.
What is, in my opinion, the most attractive segment of Dean Foods is the one it happens to be spinning off -- WhiteWave-Alpro.
WhiteWave-Alpro, which will eventually trade under the ticker WWAV, produces and distributes plant-based goods, such as Silk brand products and Horizon Organic. It's the perfect time to be in this part of the food business, because it's one of the fastest growing segments within the industry. Organic milk fetches, on average, a dollar more than its conventional counterpart, and thus offers its producers high margins. WhiteWave has been the leader within Dean Foods for quite some time in the margins department and, as a stand-alone company without the debt load of Dean, this could be a very profitable play for investors interested in the space.
WhiteWave accounts for only one-fifth of the parent company's total sales, but 40% of the profits. This figure alone demonstrates the tremendous pricing power of WhiteWave. Revenue growth and superior operating margins make this a much more appealing play than Dean Foods, and many other food producers. Silk and Horizon Organic are #1 in market share for their respective businesses. Silk is known for its soymilk products, but is also expanding into the quickly growing almond milk segment. The company announced it would soon be selling coconut and hazelnut beverages, as well. All of these are considered premium goods and fetch a healthy (pun intended) premium over traditional products.
As part of the spin-off, WhiteWave is attempting to raise $300 million for 20% of its equity -- (the remaining 80% is awarded to current Dean Foods shareholders, tax free) -- valuing the company at $1.5 billion. If we annualize the first six months' operating income for the segment, it puts the valuation at about 6.35 times operating income.
Compare that to another organic foods company, Annie's (NYSE: BNNY ) . At nearly 45 times forward earnings, we already know that Annie's is a very richly valued stock. Though not in the dairy-alternative business, Annie's sells organic, health-oriented prepared foods that command similar premiums to WhiteWave's products. Annie's sells at roughly 44 times last year's operating income.
Clearly, WhiteWave takes the cake in the valuation department.
While WhiteWave is definitely cheaper than Annie's, it is still looking to sell at a substantial premium to traditional food producers. Dole Foods (NYSE: DOLE ) , for example, looks immediately cheaper at nine times forward earnings. One can really see the valuation difference, though, with Dole trading at 4.74 times last year's operating income.
Now, before we write off WhiteWave as an overpriced no-no, it's necessary to note that Dole operates in an incredibly low margin business (produce) that is subject to intense commodity price fluctuations, government intervention, and pricing power from large grocers. WhiteWave, on an objective basis, operates in a much more appealing sector, and therefore commands a premium in its price.
WhiteWave will have to continue to post strong double-digit gains for a few years in order to justify its valuation. With the strength of this market, this is a possibility for the company. Dean Foods CEO will be leaving to helm the new entity, which is certainly a vote of confidence.
For investors willing to pay up for growth, WhiteWave should certainly be on their radar. For the value-seeking spin-off lover, though, this may be a bit rich for our taste.
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