Why did the Mexican chicken cross the road?
Because that's where the money is.
I know it sounds like a joke, maybe even a slightly derogatory one. But it isn't. The Mexican poultry market is the sixth-largest in the world and it continues to grow - and it's a profitable business for the few big integrated producers. American poultry heavyweights Tyson Foods (NYSE:TSN) and Pilgrim's Pride (NYSE:CHX) have built a large integrated facility in Mexico -- not for imports back into the United States, but for domestic consumption in Mexico. It's highly competitive, but it's a good business and, even under miserable conditions, the overall consumption of chicken in Mexico continues to grow -- up 5% in 2001.
In 1997, the largest chicken producer in Mexico, Industrias Bachoco (NYSE:IBA), came public after having operated as a family-run concern for nearly 45 years. The company is listed both in Mexico and in the U.S., and is still dominated by the Robinson Bours family, which controls nearly 80% of the stock. Bachoco controls a third of the Mexican poultry market, operating 700 different facilities throughout the country. It's a vertically integrated company, producing poultry-related goods from feed to branded chicken-related food products.
All of this likely sounds about as interesting as watching rocks. And seeing as this is a Mexican company, any expectations toward excitement for an investor in such a company might be perceived as negative. As in "Surprise! They devalued the peso!!" Not only is this a Mexican company, it's a Mexican chicken producer. Most folks wouldn't be interested in chicken producers unless the scientists bred 'em to shoot laser beams out of their beaks.
But nearly any company ought to be interesting to investors if it's cheap enough, unless of course it's in the process of going out of business. Bachoco is growing just fine, and yet it trades at a P/E of less than 4. It has a market capitalization of $390 million, but has more than $160 million in cash on hand. It has minimal debt, about $7 million. Put those all together and Bachoco has an enterprise value (market cap - total cash + total debt) of $237 million. From this base the company generated more than $122 million in operating cash flow, giving it a multiple of enterprise value to operating cash flow of less than 2. Free cash flow, the amount of money left over after it invested in new capital expenditures, exceeded $80 million. Rather than keep all of this generated cash, Bachoco has traditionally paid out between 20% to 25% of net income as a dividend -- its current yield is nearly 7%. Its price to tangible book sits at under 0.5.
So, you have a company that is growing market share, producing gobs of cash, is essentially debt free, has a dominant position in its market, and is paying a massive dividend -- all available for multiples generally accessible only to the walking dead. What gives?
Well, plenty, but it's not enough to outweigh a pretty neat, dirt-cheap investment idea, I believe.
Run to the peso?!?
Bachoco is a Mexican company, it is tied to the Mexican economy, it deals in Mexican GAAP, its currency is appropriately named the Mexican peso. If you invest in Bachoco in the U.S., your investment will be in dollars. In the course of history, it has been exceedingly rare for the peso to increase in value to the greenback and, in fact, most people can recall one or 37 instances when the peso was suddenly devalued against the dollar by a substantial amount -- meaning Bachoco would have to grow faster than the rate of peso depreciation for its growth to be meaningful to you. My favorite euphemism in the Bachoco annual report? Conversions in "constant pesos." Like there's ever been such a thing.
NAFTA has done a great deal to open up the American (and Canadian) markets to Mexican industries, and vice versa, for which the comparative advantages of each market has definitively brought substantial economic benefits. But the market perception is that there is a much higher chance of continued gradual or sudden drop in the peso value against the dollar than the other way around. Certainly this is a reason to stay away from Mexican stocks (or most emerging market equities) in general. Couple this with the fact that Bachoco doesn't have U.S.-based operations to give it a natural currency hedge -- unlike my Stocks 2003 idea, Mexican cement producer Cemex (NYSE:CX) -- so the peso issue is simply part of the deal.
The movie is Bachoco, your role is "Boy #4"
Bachoco's board of directors is stocked with members of the Bours family, including both the chairman and vice chairman. As with any company, dominance by one family could be a blessing or a curse. If that family is, for example, the Buffetts of Berkshire Hathaway (NYSE:BRK.A), the minority shareholder can rest easy that they are considered partners. On the other hand, if you happen to end up holding stock in a company dominated by folks named Rigas, best use the heavy-gauge wallet chain. Nothing at Bachoco happens without the blessing of the Bours family. And Mexican corporate governance standards allow for substantially different treatment of minority investors than do American ones. The Bours family has proven to date to be shrewd with the corporate nickel.
Like Linus and his blanket...
A NAFTA provision states that certain agricultural tariffs would fall by Jan. 1, 2003. The Mexican poultry industry lived in terror that the fall of the near 50% tariff on American chicken would cause cheap American chicken legs to flood their market (apparently, we Yanks consume substantially more chicken breast than other parts, leaving the rest to go to waste). This would, of course, force the market price downward in Mexico. Good for Mexican consumers, not so great for producers.
The Mexican government renegotiated this deal to allow the first 50,000 tons of American chicken leg quarters in duty free over a six-month period, with any additional being socked with a 100% tariff. This tariff will be gradually reduced over the next few years. Though the effects on Bachoco's bottom line are unknowable, it's a near certainty that a more open market will have an impact on it.
Finally -- and this is something the company is trying to improve -- information about Bachoco is a little difficult to come by. Its 20-F statements, the SEC forms required for foreign issuers, are available as paper copy only. You would have to request a copy from Bachoco itself. The company does not do conference calls, though it is considering them for the future. Given that it has little exposure in the U.S. and it comes from a country and an industry that many investors do not go out of their way to understand, anything Bachoco can do to improve its corporate communications should pay off. Its annual report presentation is pretty straightforward (the chicken business is fairly easy to understand). And to its credit, Bachoco does have a zippy, informative website, complete with a bowing chicken.
I don't believe the issues facing Bachoco spell disaster for the company or its investors. Not even close. It has gone to great lengths to build its brand in chicken and its new lines of chicken broth products to help it fend off the commoditization of its core products. It's also greatly expanded its production of eggs, now 10% of the company's revenues, as well as chicken feed. The low stock price seems to me to represent a sort of general negativity over Mexico rather than any fears about company sustainability. Sometimes the markets really do deliver nice opportunities to you -- a company generating heaps of cash at a reasonable, or better, multiple. This may be such a case.
Ogletorp?!? Bill Mann owns shares of Berkshire Hathaway and Cemex. He is senior editor of The Motley Fool Select, where you can find his best Foolish stock ideas that you won't find anywhere else. The Fool is investors writing for investors.
