Despite another quarter filled with noise, including the addition of recent acquisitions like Ralcorp’s private-label business, we still think ConAgra’s CAG fourth-quarter and full-year results point to the fact that competitive pressures remain heated. From our perspective, ConAgra is at an even greater disadvantage relative to its peers in that it operates with a portfolio of second- and third-tier brands, which fail to garner the same level of pricing power.
Fourth-quarter underlying consumer segment sales (63% of consolidated sales) ticked up 2%, while the commercial foods segment (37% of sales) posted 5% growth. However, the news that Lamb Weston lost a chunk of its potato sales through a large food-service customer struck us as disappointing; the effects will be felt throughout fiscal 2014. While fluctuations in business accounts are likely to occur from time to time, this is an area that we intend to continue monitoring to ensure this shift doesn’t reflect deeper issues at the firm.
Despite the sluggish sales performance, ConAgra appears to be realizing some modest traction on the profit front, as the reported gross margin popped 80 basis points to 20.7%. While ConAgra remains focused on enhancing its cost structure, we think it will need to continue investing behind its brands (in the form of product innovation and marketing support) as well as integrating recent acquisitions, including the deal to acquire Ralcorp, which could prove costly; as such, we aren’t forecasting material margin expansion. We forecast operating margins will average 9.9% between fiscal 2014 and fiscal 2017, which compares with the 9.2% operating margin reported in fiscal 2013.
Management also took the opportunity to update its longterm guidance, which now calls for 3%-4% annual sales growth (up from 3% previously) and 7%-9% earnings per share growth (up from 6%-8%); both forecasts strike us as reasonable. ConAgra also raised its forecast for expected synergies from the Ralcorp deal to $300 million by the end of fiscal 2017 (from $225 million); however, we think the bulk of this increase reflects additional opportunities for cost savings in its supply chain and distribution, avenues that will take a good deal of time to realize.
While we generally perceive the Ralcorp deal positively–as ConAgra should benefit as consumers opt for lower-priced products and retailers increasingly tout value offerings–we aren’t blind to the fact the integration is not without risks. For one, the acquisition comes with a hefty price tag, and integrating the private-label business with its branded business will be no small feat, as evidenced by the fact that other firms (including Ralcorp) have struggled to compete in both segments of the market.
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