Dole (DOLE +0.84%), a global leader in fresh fruit and vegetables, has just made its public market debut. In this episode of Industry Focus: Consumer Goods, Motley Fool analysts Asit Sharma and Emily Flippen discuss the business of produce and whether Dole is an attractive investment to consider for dividend and growth investors alike.
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This video was recorded on Aug. 17, 2021.
Emily Flippen: Welcome to Industry Focus. Today is Tuesday, Aug. 17th, and I'm the host of this show, Emily Flippen. Today I'm joined by Motley Fool senior analyst Asit Sharma as we talk about a really particularly delicious IPO, that's Dole, D-O-L-E. Asit, thank you for joining.
Asit Sharma: Emily, thanks for having me. For our English listeners today, we're not going to be talking about being on the dole. This is a newly publicly traded company, right?
Flippen: It is, and it's one that completely went under my radar until you mentioned it to me as a potential story for Industry Focus. I'm very familiar with Dole, the brand name just from their product. I think in particular it stands out to me as the pineapples. That's what I associate with Dole, but they make a lot of things, as it turns out.
Sharma: I grew up with Dole, those pineapple rings and I think they also have the chunks that you can buy in the can. Even today, I will admit to once in a while, grabbing some Dole pineapples in a can from the grocery store and throwing those on a pizza with some other toppings. But this business is about much more than that, isn't it?
Flippen: Oh, you're also a pineapple on pizza person, I see.
Sharma: Yes, absolutely. Are you?
Flippen: I am. It's a superior way to eat pizza, but I know that's a controversial opinion.
Sharma: It is superior and for those of you who disagree, come at us in the Q&A.
Flippen: Well, besides being a global leader when it comes to their fresh fruit, they also sell a lot of vegetables, things like salad mixes, grapes, berries, even getting into the avocado business. So they are a pretty well diversified fruit and vegetable company here. It's an interesting way that this company has reached public markets. I think a lot of people may be scratching their heads and wondering, well, why now? They're actually not going alone, are they? They are partnering. They're merging, I will say, with a second fruit and produce business.
Sharma: Yeah. They were partially acquired by a company called Total Produce in 2018, I should say Total Produce bought a 45% stake in the Dole Foods company and as these two decided to go public, they merged all their shares together. Dole actually bought out the rest of Total Produce. For those of you, who, why would you, but if you happen to spend a lot of time in this segment of the market, you may know that Dole used to be public and was taken private by major shareholders. So there's a lot of story behind this, but the bottom line is that we now have this diversified company, both fresh fruits and vegetables that's come to market.
Flippen: They're smartly keeping the Dole name as opposed to the Total Produce name, even though Total Produce has a very long track record of its own. Because Dole has some of the highest unaided brand awareness, I think I've seen in a long time in their prospectus, their unaided brand awareness. So when they just ask someone, "Hey, name us a fruit company," 73% of people were able to name Dole and they're 42% higher than their second competitor. So really far ahead of the competition here at Dole, which explains why that combined entity is sticking with that Dole name.
Sharma: Yeah, tremendous brand strength. I did this little exercise reading the prospectus myself. I tried to name off the top of my head just a few other companies and it took me a few seconds, Dole is that and maybe I think the Chiquita banana company came to my mind, which is a competitor on the banana side. But after that, I had a few seconds to try to come up with some other prominent brand names.
Flippen: Dole is also actually, I should say Dole and Total Produce, the combined entity, is a vertically integrated producer. So when we think about Dole, we might just think that they're slapping their stickers or their labels on the produce or vegetables that they sell, but they are actually in the process of owning the entire chain. From cultivation to manufacturing to distribution, Dole does it all. But because that is such a labor-intensive process, they have some Asian business, but they really only sell it to North America and Europe for the time being. That's by and far the majority of their revenue.
Sharma: Yeah, it's a concentrated business model geographically, this has a little bit to do with the roots of the company, which go back to the beginning of the 20th century. When a guy named James Dole bought a plantation on the Hawaiian island of Oahu and found it much easier to supply to the mainland than to send pineapples to far-flung places. They've followed that business model in this advantaged model that they have that you talked about Emily, owning that supply chain. The thing that really stands out to me isn't necessarily the acreage, they own a ton of acreage across the globe, something like 109,000 acres and they've got lots of relationships with different growers and yes, they've got 250 different facilities, among packing houses, and distribution centers. But I like that they owned a fleet of cold supply, self-sustaining container ships. So they can pack thousands of containers week in and week out and they control that aspect.
Shipping is one of the really hardest parts of the supply chain in produce because it's time-sensitive. If you can control that, you can control your promises to grocery distribution centers, you can control your costs, you can reroute produce as needed. So I think that's a big advantage. It's not a super advantage. You're going to walk us through some of the financials and we will see that this is a decent model, but it is in relation to its competitors, I think a huge advantage. They have relationships with growers in South America, Africa, and New Zealand. So if you think about that footprint, just being able to send that supply to the U.S. and Europe, is an efficiency they enjoy.
Flippen: For frequent Industry Focus listeners, I did a Wildcard Wednesday episode a few weeks back with Clay Bruning and another analyst at the Fool, and we talked about AppHarvest (APPH +0.00%). It was a pretty AppHarvest earnings report. They had a really interesting quarter, but I had a lot of concerns just about the produce industry in general and I found myself nitpicking about a lot of things that I would say are outside of AppHarvest's control. I think I can make very similar nitpicks with a business like Dole, having a completely different business model but facing the same pressures without getting too much into that, which I'm sure we'll, at the end of the show, I do want to say digging into this prospectus, I was just so interested. The fresh fruits and vegetables category is just so unique. There's clearly a seasonal aspect to it. You might be aware of those great growing seasons. They sell whatever they can get in season and whatever's freshest, but there's actually like impacts from even produce that is not seasonal. For instance, bananas, which make up around 25% of Dole's total revenue are actually more expensive during the winter. I didn't know this, because they have to compete with other fruits during the summer because those fruits in the summer are in season and so when consumers go into the grocery store, there's actually a trade-off that they experience. They go in, they want to get a certain amount of fruit for the week or the month or whatever they're shopping for and they either get bananas or they get berries. They don't get both necessarily and the same thing happens with vegetables. So it's just interesting how consumers see these totally different products in the same category as substitutes for one another.
Sharma: Emily, when I read your notes before the show, I realized that I was learning about myself because I'm a fruit buyer, I buy fruit frequently. I wouldn't call myself for fruitarian, I eat a lot of bad stuff as well. But I've experienced these patterns in the store and never really understood what was going on. Despite being someone who professes to spend a lot of time in the consumer goods sector, I'd never realize why are these bananas expensive? Because there's nothing else that's fresh in the market. Thank you for that. It was illuminating on my side. I wanted to point out too that fruits and vegetables are so fascinating because they are getting a lift from younger consumers, younger consumers not only that fruits and vegetables have health benefits over animal-based meat, but they've also got a smaller carbon footprint that's associated with cultivating them and distributing them and Dole is keen to this, they pick up on both points in their prospectus. They noted that the Dole brand is one of the 10 fastest-growing brand names among millennials. This is as of 2019. So, right up there with Crocs (CROX +0.11%). Right, Emily?
They also shared a graph in their prospectus, which visually shows you on a bar chart the relative gas carbon emissions that are associated with very common foods from fish to milk to olive oil, sugar, eggs, coffee, chocolate, all the way down to lamb and beef. Their portfolio of fresh fruits and vegetables is just a fraction of the emissions in harvesting and transport versus all the other types of fruits I just named. There is some halo effect associated with what they are selling. But we have to remember this is not something that they are doing because it's good for the environment, this is a business model, again that started in 1901. But good for them, good on them to promote the benefits since that's coming into vogue. I actually as someone who thinks about these issues to be a little less flip here, I applaud them for that with some sincerity as well.
Flippen: It does speak to the market opportunity certainly. I think fresher options, in particular, healthier options, have been gaining some steam. I know that produce has become a key growth driver for grocers, 74% of Americans buy fresh food at least once a week. When you think about that experience when you walk into a grocery store, that outer loop that people tend to walk in, that's where the fresh produce is because people go there immediately. You walk into your grocery store, fresh produce is typically right there when you walk in. It's certainly an important area for grocers to continue to stock. Another thing I thought was interesting that they laid out in the prospectus was the historical growth rate of fresh fruit and vegetables versus what they expect over, say, the next five or six years. Historically growing around 2%, they are expecting that to accelerate for the next six years at 2.7%. I know that might not sound like a really large acceleration, but to your point, this is a business, an industry that has been around for hundreds of years, typically grows very sustainably but at a very low rate. You're talking inflation-level growth rates, but take away the years when inflation is like 14%, then you have produce and a little acceleration there is never a bad thing.
Sharma: Agree. A lot of the consumer goods sector is like this. A lot of consumer staple companies grow at a rate that just exceeds inflation. Historically that's treated investors pretty well. It's been very decent for, let's say, income investors over the past 10-15 years, the question becomes so in the near term, if inflation does indeed spike, could this push some of the valuations of companies like Dole into the dog house? I don't know, but Emily, you mentioned something very interesting about the foods that are pushing that two-year compounded annual growth rate expansion.
Flippen: Yes, management says that growth is going to be led by berries, avocado, organic produce, and prepackaged salads, each growing at 8%, 7%, 11%, and 8% over the past two years, respectively. Those were a lot of numbers, but as you can see, 7% or 8%, much greater than the historical 2% of the category. As different fruits and vegetables come into vogue, avocado is probably the most clear example of this, over the past five to 10 years, as they come into vogue, sales increase.
Sharma: Yes. I just wanted to point out something before investors get too excited about this from some personal experience. I am an investor in the company called Calavo Growers (CVGW +1.73%), a wonderful little company that specializes in avocado growing and distribution, both in the U.S. and back and forth from Mexico and other areas because the avocado is just exploding in popularity around the globe. It's got a lot of health benefits, just a really beneficial type of food and tasty as well. I invested in the sector because I'm trying to learn about it. I have an investment in this and a company called Limoneira (LMNR +0.82%). What I want to point out about these faster growth fruits and exotic citruses, well, let's be honest, Limoneira specializes in lemons, which isn't really an exotic fruit, but they've got some in their portfolio. These are higher-risk fruits in terms of their variability of harvesting, especially the avocado. It's a one-year-on, one-year-off harvest pattern. You get a bumper crop one year, very little the next year, subject to drought, climate change, etc. If you are with me, those fellow Calavo owners, you probably love the company also, but you know, those results can be uneven and so can the stock performance. Just want to put in a little note of caution. We'll talk about this more in the risks, as Emily said, associated with a company that's in the agricultural business in a time of unrelenting climate change.
Flippen: It results in financial performance that I think everybody would expect when they think about a produce maker. This is steady, but low net income margins, we're talking around 1% of revenue falls to the bottom line in terms of earnings. Year-over-year growth in the single digits, small gross margins, small, but again, very steady cash flow generation. Nothing is really going to surprise you, I think if you look at those financial statements in comparison to what you imagine them to be just talking about a fruit producer. But what is important to note is just how that revenue does breakdown. Around 70% of their pro forma sales, that is, the combined entity, Dole and Total Produce, around 70% of those were fruit, 30% vegetables, again selling mainly into North America and Europe. Circle back on this, but I will mention it here, bananas are around 40% of all their fruit sales. Around 25% of total sales are just bananas. Definitely, it's a risk, we'll get to it at the bottom here, but it's a risk to keep in mind.
Sharma: The good thing about having sourcing in multiple countries around the globe and having such a massive footprint is you can manage that supply. These crops are variable and yes, they have not had to say, yes, we have no bananas, for those of you who are familiar with that very old-school reference. I think that in terms of future cash flow, Dole has proven its ability to deliver to its buyers very steadily. Unlike those smaller ag companies that actually are listed in its prospectus as competitors. I think that multipronged supplier approach on different continents is something they've mastered over the years. That's a little plus point there for cash flow predictability.
Flippen: Definitely. Although they have funded a decent amount of their growth and expansion per acquisitions, it's led to goodwill impairments over the past few years. Keep that in mind in terms of looking at whether or not they're spending shareholder capital wisely in terms of where they are acquiring it. This is also a business that has a sizable amount of debt. They're going public and using all of the proceeds from the IPO to pay off things that are essentially debt like convertibles, those aspects. They expect their debt to be just over $1.3 billion after they pay it off. Interest expense is a factor, but they've always managed to make their interest payments to be clear. It's around 17% of operating income going to interest payments over the past year. It's not terrible, just something to watch, especially when you add on top that they do have a defined benefit pension plan which is something I haven't seen in a long time, but it's underfunded, as in a young millennial investor, I never really know how much risk to attribute to an underfunded pension plan. But I say it just so it's on people's radars.
Sharma: You've got a great point there, Emily, for more grizzled investors who used to love to invest in nothing but say manufacturing. You all remember the constraint on cash flow that companies like Ford (F 1.44%) and GE (GE +2.04%) regularly express in their annual reports as they started to see those liabilities increased and the time came to pay out employees. Defined benefit means you can't really mess around, you've got to supply the cash flows to the retirees when the day arrives. That's a really great point to note. You also picked up on something when we were discussing this. That is, to me, a really great reason to buy the company, is that it's going to try to pay a quarterly dividend. This is based on total production. I'm going to call it an algorithm because I'm feeling fancy today, but 20% of net income they pay out to investors as a dividend. If you are an income investor, this could be a company to put on your radar that it's never going to be high-flying consumer goods stock. However, it could be a nice anchor-type stock in an investor's portfolio. By anchor, I don't mean that you wait more of your portfolio toward the stock. But in terms of balancing out maybe some risks of higher-yielding stocks that you may own, that's a reason to keep this on your radar screen. If you are a heavy growth investor, I can already say, since we don't have our regular hour, we're getting you see half-hour segments, I won't tease what I think any longer. I'm going to go ahead and say that yeah this is not for you. If you are a growth investor, you can look elsewhere. But I think for income investors, this could be one to pay some attention to.
Flippen: I completely agree. After this podcast, I'm actually going to send the business along to Ron Gross since he is our manager, but also helps Motley Fool run our Total Income portfolio. It's a relatively recent IPO, I'm not sure if he's looked at it, but a business like this, I think it's perfect for a portfolio that's aimed at something like total return, dividends included. Dole could not say they are a steady provider, this is a recent IPO, so they have no history of paying dividends, but if they maintain that record from Total Produce, it could be a pretty decent play. Again, this is an industry that doesn't go away. Fresh fruit and produce, it can change. We'll talk about that when we get to risks. But the need for a type of fresh fruit and vegetables doesn't disappear. That's the nice aspect I think of this business when you're an income investor, because you always face that risk when you get to businesses that are large enough to be paying out dividends.
Sharma: Emily, risks, we've got a number that we have both alluded to since the beginning of this podcast. What's the biggest risk in your mind associated with buying Dole after its IPO?
Flippen: That's a great question. I think it has two key risks: one would be the biggest risk if you're buying Dole for capital appreciation, one would be the biggest risk if you're buying Dole for income. I think in terms of capital appreciation, I talked about this during that Wildcard episode about AppHarvest, but there are just questionable unit economics behind produce in general. It's a very, very low-margin industry and they are often impacted by things that are just far outside of their control. Things like weather can make a huge difference into whether or not a business that does sell produce has a good year, good quarter, or a terrible year and a terrible quarter and weather is only getting more extreme and unpredictable due to global warming, so it just becomes a big question mark of, you can be executing really well as a business but still have financial performance that is worse than expectations because of aspects that are outside of your control, and what makes it worse is that while you can diversify your business to your point, they have operations across the world. Scale doesn't tend to make a huge difference when it comes to the actual margins themselves. Just too much outside of my control about investing for capital appreciation here.
Sharma: Yeah, that's a really great risk to isolate, and I think you sold me on that. I'm going to piggyback on the one you mentioned earlier, which is the increasing importance of agtech. I'm a big fan of this movement. I own AppHarvest, not because I think it's going to be the greatest investment, but it's a way for me to learn about the industry, in addition to my Calavo and Limoneira investments. I want to applaud Dole for not using the term artificial intelligence in every other sentence to show that they are some really tech-savvy type of software-driven agricultural concern.
On the other hand, I don't think I quite saw enough investments into technology, not that we expect them to become this big, vertical agricultural farming concern like Arrow Farms. I think they're still private. There's another well-known name in this space. They may be public by now. I believe they had SPAC IPO on the table. I'm not expecting it to become a big player because their footprint is rooted in traditional farming. The risk for me is, I didn't see enough about how they are investing in this space, and there is a long-term movement that agtech will probably provide over, I would say a seven to 10 year period, which has some pricing power that they'll have. In other words, higher pricing will be associated with food that is sustainably farmed, that's free of pesticides, that's organic and that isn't imported from another country. AppHarvest, as you mentioned, is really interesting because they're based right here close to both of us, in Appalachia, not that we live in Appalachia, but you in Virginia and me in North Carolina. They're not putting fruit on container ships. They're using technology to grow food in a sustainable way here. So I think that there's a bit of a risk there in their future profit margins if they don't invest enough and they might. We'll have to see now as they take their cadence as a public company and start giving quarterly conference calls. We can hear management's opinion about that.
Flippen: Definitely, that was the risk that I was going to outline when it comes to dividends and it might not sound like a dividend risk, but I think if you're planning on the next 10-20 years of steady dividend payments, that aspect could be something that could increase competition, really decrease the cash and the potential dividends for this business, just competing with vertical farmers, greenhouse growers that are producing locally, picking a produce and then getting it in front of consumers' faces in a matter of hours to days instead of weeks to months, so something they definitely consider. The last aspect I'll add here, I'm adding mostly just because I thought it was so interesting, is something called tropical race four. I've figured out over the past few days that I'm very ignorant about bananas. Apparently, back in the 1950s, the Gros Michel banana was the banana that everybody ate and then the tropical race one, which was a disease as a result of monoculture, just completely eradicated this banana. It was really sensitive to this disease which led to the banana that we have today whose name is escaping me, but there's another disease that is coming out in a Cavendish banana, that's what it is, that is hurting the Cavendish variety of bananas, which is the variety that Dole and every other producer sells right now, and they're probably going to have to spend a decent amount of money to restock their banana varieties to get types that have become resistant to this disease, and they expect tens of millions of dollars over the next couple of years. Something that I thought was interesting, and also to keep in mind, considering they are, again, 25% of pro forma revenue.
Sharma: Yeah. Emily, when you pointed that out to me and asked if I ever heard of it, I thought you were referring to the fourth season of some reality TV show, Tropical Race season four. Tropical race four. I find this fascinating, and I thought it was interesting that management is looking years ahead. They are experts in this. They've got ways that they can switch varieties over a multiyear period, but it is a risk to pay attention to, and now I wonder what life would have been, like bubbling up in memory that that was a pretty, delicious variety of banana. I have heard this somewhere, I just didn't know much about it, so what a fascinating risk to end our episode on.
Flippen: I will say, if you go to places like Malaysia, for instance, there are still local growers that will grow this type of banana so it is entirely possible to get it, especially relatively cheaply in other areas of the world. In the U.S., I think you can only get it if you have, say a local farmer, friend or family member who is growing this tropically in their backyard. So if you have the opportunity to give it a try in a different country, maybe give it a try. See if it lives up to the hype.
Sharma: Yeah. I don't need much of an excuse to travel so I just added Malaysia to my bucket list.
Flippen: Perfect. Asit, thank you so much for joining for today's episode. It's always a pleasure.
Sharma: Thanks for having me, Emily.
Flippen: Listeners, that does it for this episode of Industry Focus. If you have any questions or just want to reach out to say "Hi," feel free to shoot us an email at [email protected] or tweet us @MFIndustryFocus. As always, people on the program may own companies discussed on the show and The Motley Fool may have formal recommendations for or against any stocks mentioned, so don't buy anything based solely on what you hear. Thanks to Tim Sparks for his work behind the screen today. For Asit Sharma, I'm Emily Flippen. Thanks for listening and Fool on.
