Shares of Heinz (HNZ) were falling 0.3% in late morning trading, following an analyst downgrade.
Today, JPMorgan’s Ken Goldman lowered his rating from Overweight to Neutral and lowered his price target on the stock to $56 from $59. Goldman wrote that he still thinks the fundamental thesis is in tact for the stock, and continues to recommend it to dividend-conscious investors thanks to its 3.9% yield, which helps to limit downside. Yet he says that the downgrade was triggered by limited upside as well, for both his valuation and earnings estimates.
Read highlights from his note below:
Upside to earnings growth is limited over the next few quarters, we believe. We expect near-term growth opportunities to be limited by (1) continued challenges in the US retail business, (2) further rationalization and possible divestitures in the US foodservice portfolio, and (3) incremental brand building spending. To the company�s credit, its current challenges are not being ignored. In fact, management spent a meaningful portion of yesterday�s annual investor day discussing both its problems and potential solutions. We wish every
company we cover were this thorough and forthright.
Stock seems fairly priced. For investors seeking yield, Heinz remains an attractive stock, as evidenced by yesterday�s dividend boost in the face of lowered guidance. Heinz generates plenty of cash to support its dividend as well as certain growth initiatives. And we do not overlook the fact that Heinz�s emerging markets business is now larger than its US business. But in the near term, we no longer see many earnings beats ahead and we think at 15x, in line with the packaged food group average, the shares are fully pricing in the potential upside from strong growth in emerging markets.
Risks to our downgrade. The biggest risk to our downgrade that we see is that Heinz may make an accretive acquisition in the emerging markets � similar to its Quero or Foodstar acquisitions � in the near term. An accretive deal would render our EPS estimates too conservative, of course, and the valuation more attractive. We also could be too conservative if Ore-Ida recovers more quickly than expected and/or the US market as a whole rebounds via an economic recovery.
Also today, Jefferies analyst Thilo Wrede downgraded the stock from Buy to Hold and lowered its target price from $60 to $56. Wrede notes that while the international business is strong, the North American consumer products segment continues to struggle, despite several attempts to revive it.
Read highlights below:
The North American consumer business is in turmoil and we prefer to stay away for now. Even though mgmt insisted that Ore-Ida in North America is the only major problem for HNZ � and it is being addressed � we are concerned that an improvement of the business will take longer than anticipated. According to mgmt, numerous missteps were made over the last several quarters and some personnel changes have already been implemented. We left yesterday�s analyst day with the impression that more changes might be coming. After recent channel checks, we are no longer convinced that the company�s recent increased focus on opening price point items will lead to meaningful incremental sales.
Lowered guidance is disappointing. HNZ established a 3-5 year FX neutral adj. EPS growth guidance of 6-9%, 1 point below the 7-10% long-term guidance that was introduced only last year. According to management this is due to the changed environment (e.g., Europe, U.S. consumer weakness) and the ongoing struggle of Ore-Ida. Yet, FY12 organic revenue growth � even excl. the two extra shipping days � was 80bps higher than FY11 and this year is supposed to improve further. HNZ also explains the guidance reduction with additional investments and expects more working marketing spending to accelerate sales. In the current price sensitive consumer environment, we are not convinced that more marketing will help to drive consumers to HNZ�s products. 5-8% constant FX adj. EPS growth guidance for FY13 is helped a lot by taxes in the low 20% range. At the FY11 tax rate of 26.8%, the EPS growth guidance would have been 8 points lower. Our new estimates reflect the new guidance, especially reduced expectations for North America, and -3% FX headwinds (compared to -2% guidance).
Valuation/Risks: Our new $56 PT is 15.5x FY14 adj. EPS ($3.59), in line with peers and HNZ�s current, one- and five-year average valuation. Risks include (1) a slowdown of emerging market economies, (2) increasing private label competition, and (3) business disruptions from
ongoing restructuring initiatives (incl. SAP implementation).
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