Even if there is a consumer slowdown, shoppers will still stick to at least some of their preferred brands. And if the slowdown worsens, they’ll spend more on home cooking as they cut back on eating out. All of which is good news for this food producer:
Tip of the week: buy Premier Foods (PFD), says Collins Stewart
Acquiring RHM in March for £1.3bn and then Campbell Soup’s UK arm in August 2006 for £460m has made Premier Foods the UK’s largest food company. With revenues of £2.5bn, it’s bigger than Mars, Nestlé, Coca-Cola, Cadbury’s and Unilever, and controls some of the nation’s favourite brands, including Hovis, Mr Kipling, Sharwoods, Oxo, Batchelors, Quorn, Ambrosia, Branston Pickle and Hartley’s jams: around 98% of all UK households consume at least one of these products. This is a pretty defensive portfolio because even as consumers tighten their belts, they will still be able to afford Premier Foods’ products – no bad thing given the tighter economic climate. And if the slowdown worsens, they may even spend more on home cooking rather than dining out – to Premier Foods’ benefit.
The integration of Campbell’s and RHM also appears to be on track. At the group’s first-half results announcement, it reiterated its target of making £113m a year in cost savings by 2010, of which £17m would come this year. It is rationalising its supply chain and closing RHM’s old head office. The second half has started well too: a combination of new products (such as Oxo liquid stock) and a cooler summer have boosted turnover. The board appears confident that Premier Foods will deliver underlying sales growth for the year in line with its 1.5% to 2.0% guidance.
So far so good, but what do we need to watch out for? The cut-throat food retail market will continue to demand consistent product quality and continual promotion from suppliers. Nevertheless, with its enhanced scale, Premier Foods should be better placed than most to weather these price pressures.
Costs are also something to keep an eye on. Wheat prices have rocketed 68% this year from £122 per tonne in 2006 to £206 per tonne in the first half, due to dry weather in Australia damaging harvests, concerns about the reliability of Russian exports and more crops being set aside for biofuels. However, so far this trend has been covered by price rises. The company raised bread prices by 5p a loaf in February and another 8p in September. Since then wheat costs have eased by around 10%, helping profit margins.
Another risk to consider is Premier Foods’ net debt of approximately £1.83bn versus a £2.1bn credit facility and skinny interest cover of 2.6 times. Finally, around half of group revenues come from making retailers’ own brands, where Premier Foods’ pricing power is relatively limited. Nevertheless, the City is forecasting underlying earnings per share to be 16.7p this year, rising to 21.6p next. As such the shares are trading on a paltry 2008 p/e multiple of ten and also pay a healthy 5.9% dividend yield. To me, this looks good value for a group with a stable of top-notch brands offering robust defensive qualities. The directors also appear to agree, with four, including the CEO, purchasing shares in September at 247p. The next trading statement is scheduled for Monday 12 November.
Recommendation: BUY at 212.5p
• Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments