Can Spam Enhance Your Portfolio?

I am always on the lookout for companies that make products and services that people need. That is why I occasionally look toward food manufacturers. People have to eat, after all, so the chance of product obsolescence is minimal. Upon researching Hormel (NYSE: HRL), I discovered a few things that I liked about this company.

Researching a company for investment is always an important function in the quest for superior returns. I always thought Hormel to be a lunch meat kind of a company but the fact of the matter is that they produce all kinds of food products. This 120 year old company produces the well known spam, as well as the Diamond Crystal sugar packets that you see in restaurants. Hormel also sells products under other brand names such as the Jennie-O Turkey Store brand.

One of the biggest pluses for Hormel is that it has maintained profitability throughout the recession. I like companies that can be profitable both in good times and bad. As you can see in the charts below net income and free cash flow for Hormel have always been above zero. Tyson Foods (NYSE: TSN) and Smithfields (NYSE: SFD) net income and free cash flow did a huge dip during the recession. Pilgrims Pride (NYSE: PPC) is at a net loss in 2012.

HRL Net Income TTM data by YCharts

 

HRL Free Cash Flow TTM data by YCharts

Another positive metric for Hormel is that it has the lowest debt to equity ratio of the companies discussed at 9% (see chart below). Personally I think companies with a long-term debt to equity ratio less than 50% are acceptable.

Pilgrim's Pride has the highest long-term debt to equity ratio at 144%. Pilgrim's Pride also has the least amount of profitability. Smithfield Foods debt to equity ratio stands at 60% which is 10% above my personal threshold.

HRL Debt to Equity Ratio data by YCharts

Hormel's superior fundamentals are built into the valuations (see chart below). Hormel is at the bottom of the chart in terms of free cash flow yield at 4%. Smithfield is the cheapest company on the list but there history isn't as good as Hormels.

HRL Free Cash Flow Yield data by YCharts

I think Hormel has a number of opportunities. Hormel's fastest growing segment in terms of revenue year to date is the specialty foods segment, encompassing products such as sugar and nutritional supplements for hospitals, which grew 12% versus this time last year. The biggest part of this growth was attributable to continued strong sales in bulk and nutritional items in the international segment.

The highest growing segment quarter over quarter was the grocery segment which grew 21% for the quarter ending July 29. This growth also stems from gains made through acquisitions through a Mexican joint venture with Herdez Del Fuerte, S.A. de C.V. Like most companies Hormel's future lies in international expansion. In the grocery segment Hormel experienced gains in core products such as spam due to advertising campaigns.

Given Hormel's profitability during difficult times and low balance sheet leverage as well as the company's international market opportunities this company is worthy of being on a watch list. However, with Hormel's high valuation I'm going to wait for a market correction before buying or adding to my Motley Fool Caps.