Peter Lynch famously, and successfully, ran Fidelity's Magellan Fund for 13 years, writing several books about the processes and logic of stock picking he used while at the helm. The key features of his approach are to buy what you know, pay a reasonable price for growth, and try to figure out how long a growth runway a company has ahead of it.
Hormel Foods (HRL 0.14%) looks like a good stock selection based on all three of these factors. Let's see why this is a stock Peter Lynch would consider.
1. Know what you own
Hormel is a branded food producer. Its best-known brand is most likely SPAM, which you may not love, but you most likely know about it -- it's a cultural icon with a loyal global following. But that's just the start of Hormel's 40-plus brand portfolio. This company also manages its namesake brand, Skippy, Dinty Moore, Applegate, Columbus, Herdez, Jennie-O, Lloyd's BBQ, Wholly Guacamole, and the recently added Planters, among others.
Image source: Getty Images.
Peter Lynch stressed buying what you know and Hormel not only has brands most consumers know but probably a bunch they actually buy. And the brands you don't buy you can still easily monitor as you peruse the grocery store. Notably, with the addition of Planters, you can also increasingly find Hormel products in convenience stores (an area in which the company is looking to expand).
One thing to pay particular attention to is Hormel's efforts with innovation. It's a core strength and something that helps to set consumer staples makers apart from the pack. For example, since being acquired, Planters has updated its advertising, packaging, and brought out new product flavors. Although the nut category has been under pressure, Hormel highlighted in the second quarter that its volumes are ahead of the packaged seeds and nuts average.
2. Pay a reasonable price
Hormel's stock price is down around 20% over the past three years. It has dramatically underperformed the broader market (as represented by the SPDR S&P 500 ETF Trust) and the average consumer staples stock (as represented by the Consumer Staples Select Sector SPDR ETF). But that's pushed the dividend yield up to 2.7%, the high end of the stock's historical yield range.
The high yield suggests that Hormel's stock sits on the sale rack. But, here's the interesting thing. The company is a Dividend King and the most recent dividend increase, made in the first quarter, was approximately 6%. To be fair, the company is facing some headwinds right now (see below). But if a 6% dividend increase is what you get in a bad year, it is hard to complain. Over the past decade, the average dividend increase was roughly 13%.
HRL Dividend Yield data by YCharts
It is fair to suggest that this is an attractive dividend growth stock trading at an attractive valuation.
3. How long is the runway for growth?
From a big-picture perspective, Hormel's runway for growth is virtually unlimited. That may sound like hyperbole, but it really has more to do with the nature of the consumer staples space. It is normal for companies like Hormel to buy and sell brands, adjusting their portfolios to consumer buying trends. So, if the company wants to add a little more runway it just has to acquire a new brand. Planters is a great example of this.
From a near-term perspective, the company is not doing very well right now. Inflation tends to hurt margins, price increases haven't gone smoothly, avian flu is limiting its ability to supply turkey at Jennie-O, and newly added Planters is up against difficult industry trends (even though, as highlighted above, it is managing them well). All of these issues are likely to be temporary, however, so there's plenty of room for a turnaround in performance.
Then there's the company's global expansion efforts. Hormel has historically been focused on North America, but it is increasingly looking to branch out, with operations in Asia and South America. The international business is only about 6% of sales today, so there's a huge opportunity for expansion here, too.
Basically, there are both long-term opportunities and short-term opportunities here on the growth front.
Patience is what's needed with Hormel
There's one more thing about Peter Lynch that's important, he didn't like to buy and sell. He preferred to buy and hold. Hormel looks like an attractive Lynch stock on his key metrics, but you will need to give the company time to work through current headwinds and execute on its long-term opportunities.
Once again, such a strategy is perfectly in line with Lynch. As compensation for waiting you'll get to collect, or reinvest, the historically high yield while you await better days. Dividend growth investors shouldn't pass this opportunity by without doing a deep dive.
