It's no secret that the packaged-food industry is huge. The convenience factor, in addition to the fact that people simply need to eat, provides a great deal of stability to companies like ConAgra Foods (NYSE:CAG), the diversified food giant behind such brands as Hunt's, Chef Boyardee, Orville Redenbacher's, and Healthy Choice. However, it's also true that food is inevitably a slow-growth industry because it is saturated with competition.
To combat this, large food companies are turning to acquisitions to try to buy growth. This was the impetus behind Sysco acquiring U.S. Foods for $3.5 billion in stock and cash, which created a food-industry conglomerate with annual sales of $65 billion.
But ConAgra is still in a bind. Food inflation has reared its ugly head, and management expects it will likely only produce low- to single-digit revenue growth over the long term. If you're an investor who craves stability and a solid 3% dividend, ConAgra is a good choice.
This is especially true if you take the social impact of your investments into account. ConAgra could be a good alternative to others in the consumer-staples sector, for instance, tobacco company Lorillard (NYSE:LO).
On the other hand, if you're a growth investor, there probably isn't much about ConAgra to whet your appetite.
Major food companies under pressure
Both ConAgra and Sysco have turned to acquisitions in the face of inflation threatening to erode their margins as well as the slow-growth nature of the food industry.
Last year, ConAgra closed on its nearly $5 billion acquisition of private-label brand Ralcorp Holdings. That deal has significantly boosted sales in ConAgra's private brands, and the company's bottom line is getting a lift from the significant cost synergies. The company estimates it will generate $300 million in synergies by year-end 2017. This, along with other cost controls, fuels management's projections for 7%-9% long-term annual earnings growth.
These are good numbers, but it appears that this growth potential is already priced into ConAgra's valuation. Shares of ConAgra change hands for about 14 times fiscal 2015 estimates. That's not really a bargain for a company with fairly modest growth potential. This is fleshed out in ConAgra's dividend growth, which is unimpressive. It hasn't increased its payout in almost two years.
Sysco is suffering from the same lack of growth. Sales growth clocks in at just 4% year to date, and net income is actually down in that time due to cost inflation and acquisition expenses.
Buy ConAgra? It depends
To be sure, ConAgra does have good things to offer. If stability and a solid dividend are your primary objectives, you could certainly do worse. And, should the economy unexpectedly turn south, the reliability of the food industry gives you a margin of safety. ConAgra's net sales and net income actually rose in fiscal years 2008 and 2009.
Plus, ConAgra pays a nice 3% yield, which is fairly attractive for income investors. And, if you're wary of tobacco companies like Lorillard, ConAgra is a good alternative in the consumer-staples sector.
Indeed, while Lorillard pays a hefty 4% yield, its future is slightly clouded by the uncertainty facing e-cigarettes. Lorillard commands nearly half the market share in the electronic-cigarette category through its blu brand. That stands to grow further, thanks to its acquisition of SKYCIG, a U.K.-based manufacturer of electronic cigarettes, to boost its international standing in the category.
Due to the U.S. Food and Drug Administration's recent ruling that tobacco companies will be banned from selling e-cigarette devices to minors and that makers of the devices will have to get FDA approval, growth may slow. In addition, manufacturers will have to disclose the chemicals used in the devices and provide health warnings that the nicotine can be addictive. This could put a dent in one of Lorillard's most important product categories.
The bottom line for you is that while ConAgra is a profitable company with solid brands, whether you should buy the stock boils down to what type of investor you are. If you value the sleep-well-at-night qualities of a large company that operates in a stable industry and pays you a nice dividend, ConAgra is a good choice. That's especially true if you're looking for a more socially conscious alternative to tobacco giant Lorillard or other consumer-staples companies.
If you're looking for greater growth potential, however, ConAgra might not be the stock for you.
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Bob Ciura has no position in any stocks mentioned. The Motley Fool recommends Sysco. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.