When was the last time you heard about a company more than doubling its profit from the previous year, but an error in judgment restrained that profit? Probably about as often as money grows on trees.
Pork and beef producer Smithfield Foods (NYSE:SFD) often has to make forward-looking decisions about futures contracts. Earlier this year, the company decided to lock in profits in hog production before an "unexpected increase in live hog market prices" during the first quarter. The net effect of these commodity futures contracts was a $47 million reduction in hog production earnings for the first quarter and an expected $35 million for the second quarter.
On the flip side, a 29% increase in live hog prices pushed first-quarter earnings to $0.49 per share, which was ahead of the $0.47-a-share analyst expectations and the $0.20 per share earned last year. Hog production sales were up 57% in a traditionally soft quarter, primarily as a result of the protein focus of the low-carb diet craze. It appears that Smithfield can do no wrong, even when it underestimated live hog market prices. Smithfield has no live hog futures contracts in place beyond the second quarter and expects the grain purchasing agreements it has in place to produce a benefit of $12 million to $13 million in the second quarter (they produced a $28 million positive effect in the first quarter).
The company's results were slightly hurt by a 1.8% drop in beef sales, which resulted from a single case of mad cow disease in Washington that caused a shutdown of its export markets. However, Smithfield expects this to be cleared in the coming months, and it should return to more normal production levels.
Many of the hog-related companies, such as Hormel (NYSE:HRL), have struggled because of the impact of rising hog prices. Smithfield's decision to lock in a profit on futures contracts was quite a fiscally responsible hedge. No one expected live hog prices to climb to such heights, and even Smithfield's CEO said that if "I had to do it over again, given the same facts, I would likely make the same decision." In comparison, the shares of poultry producers such as Tyson Foods (NYSE:TSN), Pilgrim's Pride (NYSE:PPC), and Sanderson Farms (NASDAQ:SAFM) have recently been hurt by higher grain costs and lower wholesale prices.
Putting it all in perspective, Smithfield shares are trading at a trim 11.4 and 10 times projected earnings for fiscal 2005 and 2006, respectively. This compares very favorably with the company's expected earnings growth of 46% and 15% for the next two fiscal years.
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Fool contributor Phil Wohl spent more than 12 years on Wall Street and now concentrates his writing on more fictional characters. He has no stake in any firm mentioned above.
