On Monday, the nation's largest maker of kefir (a kind of drinkable yogurt) announced that it has acquired the nation's second-largest maker of kefir. In a deal noticed by almost no one on Wall Street, Lifeway Foods (NASDAQ:LWAY), maker of the tasty, yogurt-like, and loaded-with-good-bacteria beverage, declared that it will absorb its leading rival, privately owned and Minnesota-based Helios Nutrition Limited. And then the fun started.
On Monday, the day of the announcement, Lifeway's stock rose 2.3% in response to the deal. Then Mr. Market rethought himself and began bidding the shares back down again. End result: Lifeway now trades 2.2% lower than when the deal was announced. That's insane, and here's why.
A steal of a deal
Lacking information on privately held Helios' profitability, we'll use a somewhat limited -- but still informative -- valuation metric: sales, and their relation to a company's price. With a market cap of $104 million and trailing-12-month sales of $21.5 million, Lifeway trades at a premium valuation of 4.8 times sales. According to the press release, Helios has booked $2.7 million in sales so far this year, and $4.6 million in fiscal 2005. To compare cows-to-cows, therefore, let's split the difference and call it trailing-12-month revenues of $5 million.
And how much is Lifeway paying to take possession of that $5 million-per-annum revenue stream? Short story: $8 million. Long story: $2.5 million in cash, plus an IOU for $4.2 million to be paid off over the next four years, plus $1.3 million worth of stock. Even if you assume that cash paid as much as four years down the road is worth the same as cash paid upfront today (which it isn't), that still works out to a mere 1.6 times sales -- just one-third the value that Mr. Market places on Lifeway's own revenue dollars.
Or is it?
Ah, but you say that not all companies, or their revenue streams, are created equal. And that's true. In fact, Lifeway is a superior company to the one it's buying -- and not just in size. Comparing Lifeway's reported $12.4 million in year-to-date sales to the $9.7 million it had booked by this time last year, I calculate the buyer in this transaction has a year-over-year sales-growth rate of 28%. Running the same formulae with the numbers that have been made public for Helios, I put the target company's sales growth at a more modest 17%.
Yet even if we knock Helios' estimated growth rate back to 14% (if for no other reason than to make the math a bit easier), what we have here is Lifeway paying one-third its own sales multiple to acquire a company growing at half its speed. To this Fool, based on the available information, that looks like a steal of a deal.
But I've never heard of either of these companies! Some context, please?
I'll try, but don't blame me if this makes things even more confusing. Yahoo! Finance lists General Mills (NYSE:GIS) and Dean Foods (NYSE:DF) as Lifeway's closest competitors. But honestly, more appropriate comparisons to Lifeway's product offerings are probably found in the more yogurt-centric foreign companies Danone (NYSE:DA) and Wimm-Bill-Dann (NYSE:WBD). Let's see how these four companies stack up against Helios in the categories of growth and price as a multiple to sales.
|
Sales growth |
P/S ratio | |
|---|---|---|
|
General Mills |
4% |
1.6 |
|
Dean Foods |
2% |
0.5 |
|
Danone |
9% |
2.0 |
|
Wimm-Bill-Dann |
17% |
1.2 |
There are a few ways of comparing these metrics to Lifeway's purchase of Helios. Let's go through the list:
- General Mills commands the same P/S ratio that Lifeway is paying for Helios: 1.6. Yet Helios is growing more than four times as fast as General Mills.
- Wimm sports the same growth rate as Helios, yet sells for a lower P/S ratio. Before you conclude that Lifeway is overpaying, though, take a look at the environment in which Wimm operates, and ask yourself whether a country in which companies can be summarily stolen from their shareholders deserves the same valuations accorded to a company operating in Minnesota.
- Dean is hardly growing at all, and accordingly receives a miniscule P/S ratio. Logical.
- And finally, Danone is growing half as fast as is Helios, yet sells at a higher valuation.
My take
Personally, I give this deal a thumbs-up. Rather than pay a premium to lock up this market, Lifeway got a great price, in this Fool's opinion. What's more, as was made clear in the companies' joint press release on the purchase, both parties came away happy. Lifeway CEO Julie Smolyansky exulted that the new and improved Lifeway now commands the No. 1 market share in the $2.1 billion organic dairy foods market, and gains entrance into the formerly closed Minnesota kefir market that Helios dominated. And Helios CEO George Economy says he's "proud" to join forces with Lifeway, and reminds investors in the combined company that the "kefir market [is] one of the fastest-growing food industry categories."
Between the price it got, the market share it will control, and the growth prospects for the combined company, I have no hesitation in saying that Mr. Market called this one wrong when he bid Lifeway's shares down on this news.
Valuation matters
That said, let's take a moment to run an updated valuation on Lifeway, and see whether there might be some other reason to bid the company down. (This is called "foreshadowing.")
On a run-rate basis, the combined company is on track to post $30.2 million in sales this year. Let's give Lifeway every benefit of the doubt here: Assume it can hit that number. Assume it can translate its own hefty 12.65% profit margin to Helios' revenues without skipping a beat. Assume further that the combined company will continue to grow at Lifeway's current 28%-per-annum pace.
With all those assumptions in place, Lifeway would earn $3.8 million this year. At its shares' current price, that gives the firm a forward P/E ratio of 27.4, which -- let's be honest here -- looks a little rich. Let's make one more assumption, though: that Lifeway continues to grow its profits at the same rate it grows sales. (This has happened from time to time during the company's history, although not consistently.) Divide 27.4 by 28, and with everything going its way, Lifeway scores a PEG of 1 -- suggesting that it's fairly valued today.
Foolish takeaway
In the final analysis, Lifeway looks fairly priced to me -- if every one of the generous assumptions laid out above proves true. At the current price, though, there's little room for Lifeway to make a mistake and still deserve its premium P/E ratio.
Fortunately, in buying Helios, it made no such mistake.
Want to learn more about Lifeway? Read on:
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Fool contributor Rich Smith does not currently own shares of any company named above. The Motley Fool's disclosure rules are a "buy" at any price.
