Companies that operate in commodity markets often require a bit of reverse psychology when it comes to their stocks. Invest in protein producers like Tyson (NYSE:TSN) or Smithfield (NYSE:SFD) when times are great, and you are likely to be buying into a peak. With that in mind, the lackluster performance of Smithfield in its fiscal fourth quarter, combined with some iffy market fundamentals, might make this a stock worth watching.
Investopedia Broker Guides: Enhance your trading with the tools from today's top online brokers.
Disappointing Results to Close the Year
Smithfield's stock has been sliding around roughly since the start of the year, as investors have been jittery about pork prices, inventories, export demand and rising costs. That came home to roost this quarter, as Smithfield posted a meaningful miss.
Revenue rose 3% and missed the average Wall Street analyst by a relatively trivial (2%) amount. While hog production benefited from some premiums to market prices and sales rose almost 8%, fresh pork sales rose 3% as a decline in cutout offset higher volume. Packaged meat sales were up less than 1%, but more or less as expected.
Margins were the problem area. Gross margin fell about four points, and adjusted operating profit (excluding some insurance benefits) dropped almost by half. Fresh pork margins plunged, hurt by higher supplies and weaker demand. Packaged meat margins are actually solid and the company increased its "normalized" guidance. International margins were also surprisingly weak, but management didn't offer a lot of information on this one.
SEE: Profitability Indicator Ratios: Profit Margin Analysis
Is Cold Storage Going to Chill the Market?
One of the reasons for concern on Smithfield is the potential for imbalance between production and demand. The USDA's most recent report shows more pork in cold storage (over 650 million pounds) than at any time in the past four years, and the trend is currently moving up. Whereas storage levels typically peak in the late winter and decline through the year, it doesn't seem to be moving that way this year.
With margins softening, the assumption is that producers are going to trim back on production. That should be supportive of prices, but further declines in corn (a key input in feed) would also help.
SEE: Investing Seasonally In The Corn Market
Where's the Balance in Domestic and Export Demand?
The demand situation for pork, like most food products, is still in flux. Shoppers in the U.S. have been trading down from beef to pork and from beef and pork to chicken - not such a threat for a diversified company like Tyson, but more problematic for Smithfield. At the same time, export markets continue to get more competitive. While Brazilian and Argentine producers are more interested in beef and chicken, there are plenty of contenders trying to capture share in markets like China.
This is where packaged and processed food can help smooth things out. Companies like Hormel (NYSE:HRL), Kraft (NYSE:KFT) and Sara Lee (NYSE:SLE) (soon to be Hillshire Brands) can reap some advantages from lower production costs, and don't seem to experience as much elasticity on the supermarket shelf. To that end, it's worth pointing out again that Smithfield's packaged business is showing pretty good margin strength.
SEE: Profit By Understanding Fundamental Trends
The Bottom Line
It's hard to recommend that investors step in front of a stock where the sentiment is so negative, but these shares are getting a little more interesting. While it no doubt seems too simplistic, the reality is that buying Smithfield shares at a price/book value of below 1.0 usually works out fairly well. This isn't a stock to be bought and held for the long term, but with the valuation below that critical point, it's at least worth a closer look.
At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.
EconomicsAfter the Paris attacks investors are focusing on central bank policy and its potential for divergence: tightened by the Fed while the ECB pursues easing.
Stock AnalysisLearn the biggest potential risks that may affect the price of Pfizer's stock, complete with a fundamental analysis and review of other external factors.
Stock AnalysisA summary of what Allstate Insurance sells and whom it sells it to including recent mergers and acquisitions that have helped boost its bottom line.
Chart AdvisorCopper prices have been under pressure lately and based on these charts it doesn't seem that it will reverse any time soon.
Options & FuturesInvesting during an economic downturn simply means changing your focus. Discover the benefits of defensive stocks.
MarketsLearn how this simple calculation can help you determine a stock's earnings potential.
Stock AnalysisLearn about large changes to Berkshire Hathaway's portfolio. See why Warren Buffett has invested in a commodity company even though he does not usually do so.
Investing BasicsHeld onto a stock for too long? Selling at a loss is never ideal, but it is possible to minimize the damage. Here's how.
InvestingThe Black Friday creep may have hit a wall as some stores are shutting their doors on Thanksgiving and even Black Friday to give employees the day off.
InvestingWe look at the meaning of two terms that often get confused, duration and maturity, to set the record straight.
Out of the 2,800 mutual funds that Morningstar, Inc., the leading provider of independent investment research in North America, ... Read Full Answer >>
There are several hedge funds that invest in commodities. Many hedge funds have broad macroeconomic strategies and invest ... Read Full Answer >>
When a company has low working capital, it can mean one of two things. In most cases, low working capital means the business ... Read Full Answer >>
Nonprofit organizations continuously face debate over how much money they bring in that is kept in reserve. These financial ... Read Full Answer >>
A company's working capital turnover ratio can be negative when a company's current liabilities exceed its current assets. ... Read Full Answer >>
Working capital is a commonly used metric, not only for a company’s liquidity but also for its operational efficiency and ... Read Full Answer >>