McCormick (MKC 0.44%) is a $20 billion consumer staples giant with a focus on spices and flavorings. It is very rarely "cheap" on an absolute basis, but that doesn't mean the stock doesn't get undervalued from time to time. Here's why you might want to dig into this company's story today before everyone else starts to notice how cheap it's getting.
What does value mean?
When investors talk about valuation on Wall Street, they usually point out the price-to-earnings (P/E) ratio. The problem with this metric is that earnings are incredibly variable over time, often moving quite dramatically from quarter to quarter and from year to year. It can be something of a moving target. McCormick's current P/E ratio is around 30, slightly above the five-year average of 29 but below the three-year average of roughly 32.
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Is that cheap? It depends on what you are comparing it to, noting that the S&P 500 Index has an average P/E of around 19. I prefer to look at dividend yield as a valuation tool because dividends tend to be far more consistent over time. McCormick's dividend has been growing annually for over two decades. That includes in 2022 despite the effects of fast-rising inflation on its business.
It has a roughly 2% dividend yield today, which seems fairly modest. However, the consumer staples giant's yield is notably higher than the 1.65% yield you'd get from an S&P 500 Index fund. The yield also happens to be near its highest levels over the past decade. The only time in recent history when the yield was notably higher was during the Great Recession.
If you are looking at dividend yield, McCormick looks fairly attractive today compared to the recent past.
Bad things and good things
The relatively high yield today exists because the stock has fallen by roughly 25% from its highs in 2020. A good portion of that pullback has happened over the past year, following a rally that started in 2021 but petered out in 2022. The reason for the price drop is largely related to inflation, which has ticked higher and is crimping the consumer staples giant's margins. For example, gross margin fell 320 basis points, year over year, in the third quarter of 2022. Supply chain constraints are also an ongoing drag.
These are very real issues that investors need to monitor, but they are problems that a company with a century-plus history has dealt with before. Supply chains get worked out over time, and price increases get pushed through to consumers to deal with inflation. Yes, there's some near-term pain, but McCormick is still one of the largest spice makers in the world, with a huge customer base on the consumer and business-to-business side of things.
Meanwhile, it has been branching out into new areas, notably with the acquisition of brands like Frank's RedHot and French's mustard. Such flavorings provide an avenue for growth while allowing McCormick to stick close to its core. While such purchases have resulted in a higher debt-to-equity ratio than in the past, the company has been successfully reducing leverage. Overall, investment grade-rated McCormick looks like it has the financial and business strength to survive the current headwinds while it continues to grow over the long term.
A good opportunity
It wouldn't be fair to suggest that McCormick is a deep value stock, but if you look at dividend yield, it does appear cheaper than it has in a long time. If you are an investor who thinks in decades, that's probably a very good signal to start a deep dive. If you do, you might find that this long-term dividend grower's short-term problems are just the opportunity you've been waiting for to add McCormick to your portfolio.
