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Three weeks ago, I threw out a dozen, brand-new eggs thanks to the salmonella scare, which stinks because I almost never buy groceries. Oddly enough, although I couldn't eat the eggs, I will not be stopped from putting the Fool's money behind the very same company that sold those eggs: Cal-Maine Foods (Nasdaq: CALM).

Eggs are truly boring business, and I typically don't cast an eye toward slow-growth, commoditized industries for new investment dollars. But if market outperformance is what gets your motor humming, check out Cal-Maine, a family-owned business that also happens to be the nation's largest producer, packager, and distributor of shelled eggs in the U.S. At today's prices, the stock looks truly eggs-cellent.

Terrible -- I know.

Fast facts on Cal-Maine

Market capitalization

$717 million

Industry

Eggs, eggs, eggs

Revenue (TTM)

$910 million

Earnings (TTM)

$67.8 million

Source: Capital IQ, a division of Standard & Poor's, and company filing.

Hmmm, salmonella
A serious contamination controversy might be reason to avoid a business like this, but that's a mistake. Unlike, say, plutonium-infused baby food from China, consumers aren't going to avoid eggs for all that long. I can't go more than a few days without a delicious breakfast sandwich or my girlfriend's chocolate chip cookies, and neither can a whole lot of Americans, which is precisely why I love this business.

The even better news is that the contaminated eggs that Cal-Maine sold (representing just 0.3% of that period's sales) were not really Cal-Maine's. Cal-Maine merely packaged them for the offending Iowa farm. I very much doubt that the company will face any significant liability issues. Thus, from both a demand perspective and a regulatory perspective, this recall is a big, old non-issue for Cal-Maine. Moving on...  

The incredible edible egg
Founded in 1969, Cal-Maine is a $715 million company whose positive attributes are simply too numerous to spell out in lyrical prose -- so please allow me to bullet them out:

  • Healthy balance sheet: Cal-Maine holds $200 million in cash against $135 million in debt and about $40 million worth of operating leases. This is a well-capitalized business.
  • Insider owned business with reasonable comp: Chairman/CEO Fred Adams Jr. has been at the helm since 1969 and owns about 35% of the company. Most of the executive team has been with the company for decades and collectively they own more than 40% of the company itself. Unlike Middleby (Nasdaq: MIDD), a company with somewhat similar size characteristics, execs are very reasonably paid. (Incidentally, after only 5 minutes on the telephone with the good folks at Cal-Maine, I was able to arrange a chat with CFO Timothy Dawson. Accessible management is yet another hallmark of a shareholder-friendly business.)
  • Good capital allocator: Cal-Maine uses capital very efficiently. Returns on equity have averaged in the low 20s over the past few years, while returns on capital have been in the mid-teens. Enough said.
  • Cash-flow machine: Over the past 12 months, Cal-Maine pushed out just less than $100 million in free cash flow against $910 million in revenue. The company has plenty of similarly impressive periods of operating history.
  • Recession-protected product with strong distribution base: Eggs are eggs; the average person eats about 253 per year and should continue to do so. Cal-Maine owns about 18% of the total market. The overwhelming majority of these sales fall into the hands of the individual consumer via big chains like Wal-Mart, Sam's Club, Costco, and Food Lion, which means that the company isn't heavily reliant on the success of big chain restaurants, either.
  • Pricing power: Inflation concerns me. Fortunately, if grain prices shoot through the roof (chicken feed represents 60% of the company's farm production cost), Cal-Maine should be fine. It can raise prices, too. This is the nice part of being in a commodity business.
  • Robust dividend yield: At 3.9%, Cal-Maine's dividend yield is attractive. The dividend is fixed at 1/3 of net income, which might cause the actual distribution to bounce around a bit over time, but for the long term, I expect investors will love it.
  • Demonstrated success growing through acquisition: With long-term egg consumption expected to grow alongside our population (about 1% per year), Cal-Maine plans to grow earnings by buying up smaller operators and improving them using superior operational knowledge (50 years' worth). Cal-Maine has done it 16 times since 1989 with great success.
  • Potential secular growth thanks to sustained recession: This is just a nutty theory of mine, but if people get really poor, they might just trade-in their higher-grade proteins (beef, pork, etc.) for eggs. I know I did it in college.

Risks
Here's what might derail this small-cap juggernaut:

  • Decline in egg consumption: First, eggs were healthy, then they weren't, then they were, then they weren't, then they were. Back and forth it goes.
  • Failure to successfully integrate acquisitions: Growth through acquisition is a notoriously difficult strategy to nail. One bad purchase can ruin a year or two's worth of earnings.
  • Insider shenanigans: Any time one person (or family) owns a massive stake in a business, things can get very ugly for shareholders. We've seen it with Playboy (NYSE: PLA) and Value Line (Nasdaq: VALU). Of course, it can also be a great thing, too -- see Berkshire Hathaway (NYSE: BRK-B). I have a good feeling about the team at Cal-Maine, but I'll definitely be paying attention.
  • Backlash against Big Egg: Socially conscious consumers probably refuse to buy eggs from Cal-Maine. Fortunately, the company has prepared, venturing (quite successfully, I might add) into the specialty egg and cage-free segments under separate brands.

The numbers
Sophisticated stock valuation is a pseudo-science that I'm not particularly fond of. A few modest trading multiples next to a healthy balance sheet, proven cash flows, a promising future, and a solid competitive position is all I typically look for. On this basis, I'm happy to see that Cal-Maine is trading for a very reasonable 2.1 times tangible book value and a very cheap 6.8 times EV/FCF, which helps tell me this stock is ripe.

One technique I do enjoy using, however, is the reverse DCF, which helps me understand what the market is expecting as far as growth goes from Cal-Maine. Here's what I see:

Today's Price

2011 Growth

2012 Growth

2013 Growth

2014 Growth

2015 Growth

$30.00

5%

4%

4%

3%

3%

At $30 per share using a 12% discount rate, Wall Street is expecting Cal-Maine to grow too slowly. Over the past three years, for example, the company has grown profits by about 23% per year.

I believe Cal-Maine can do better, perhaps much better than the modest figures cited above -- which means, of course, that the stock is worth more than it is trading for today. How much more? I won't call out a specific figure. But, having just delivered 430% to shareholders since 2005 and with plenty of forward growth opportunity through intelligent expansion (not to mention the barrage of positive characteristics listed above), I absolutely think the stock is worth substantially more than $30 per share.

The Foolish bottom line
I like eggs. You like eggs. Perhaps it's time to take a look at one business that is positioning itself to dominate that larger space. The company has plenty of characteristics working in its advantage, shares are looking pretty darn cheap, and there's no reason to believe the company can't continue to reward shareholders. The Fool will be buying shares.

Previous recommendations:

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Fool Nick Kapur takes his eggs scrambled with cheese, sausage, and Frank's Hot Sauce. He owns no shares of any company mentioned above. Berkshire Hathaway is a Motley Fool Inside Value pick. Berkshire Hathaway is a Motley Fool Stock Advisor recommendation. The Fool owns shares of Berkshire Hathaway. Try any of our Foolish newsletter services free for 30 days. True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community. The Motley Fool has a disclosure policy.