J.M Smucker (SJM): A Solid Dividend Contender

J.M Smucker (SJM) is a dividend growth stock that is well known for its jams. But transformative changes to the product portfolio over the past decade have made it a leader in the basic necessities market spaces including pet food & snacks, coffee, and nut butter. The company is of interest to most dividend growth investors due to a solid yield of over 3% and a growing dividend. Smucker is a Dividend Contender having raised the annual dividend for 19 straight years. In all likelihood, the company will become a Dividend Champion in several years. Individual investors looking for a stock in the consumer staples sector with a decent yield and rising dividend should take a look at this stock.

Overview of J.M Smucker

J.M Smucker was founded in 1897 and is based in Ohio. The company has grown and now operates in four business segments: U.S. Retail Pet Foods U.S, Retail Coffee U.S, Retail Consumer Foods, and International and Away From Home. The company sells to distributors, retailers, foodservice, specialty stores, etc. Major brands include Meow Mix, Kibbles ‘n Bits, 9Lives, Nature’s Recipe, Milk-Bone, Pup-Peroni, Rachael Ray Nutrish, Natural Balance, Carnation, Folgers, Café Bustelo, Dunkin’ Donuts, 1850, Jif, Smucker’s, Smucker’s Uncrustables, Crisco, Robin Hood, and Five Roses. Smucker is the No. 1 or No. 2 brand in fruit spreads, nut butter, dog snacks, cat food, and coffee at home. Total revenue was $7,801 million in fiscal 2019.

Smucker (SJM) is still led by members of the founding family. The current CEO, Mark Smucker, is a descendent of the founder and the fifth generation to have led the company. The CEO’s uncle is the Executive Chairman and former CEO. The CEO’s father is a director and Chairman Emeritus. Despite the high level of board representation, the founding family reportedly owns only about 4% of the company.

J.M Smucker Revenue Growth and Margins

Smucker grows both organically and through M&A. The company is an acquisitive one and has transformed itself from focusing on only consumer foods to having a wider product portfolio with leading brands. Currently, pet foods and coffee generate greater total sales than consumer foods.

Smucker bought the JIF and Crisco brands in 2002. In 2004, Smucker acquired International Multifoods Corporation. Then the company bought Folgers Coffee from Procter & Gamble in 2008. Next the company completed the acquisition of Big Heart Pet Brands in 2015 for ~$5.8B, expanding its portfolio of pet foods & snacks. In 2018 Smucker added to its pet food & snacks brands by acquiring Ainsworth Pet Nutrition LLC for $1.7B. These were the major acquisitions, but Smucker has conducted several other tuck-in acquisitions over the years as well.

Smucker also divests brands. The company has been exiting baking business. Smucker already sold Pillsbury in 2018 and is now divesting Crisco and the remaining baking business to B&G Foods for $550 million in cash.

J.M Smucker Growth

Smucker is also growing organically, especially in the pet foods and coffee segments. In addition, the Uncrustables brand is growing rapidly (20% CAGR) in consumer foods. Further, the COVID-19 pandemic has benefitted consumer staples companies with the surge at home cooking and consumption providing a tailwind for revenue and earnings. Sustainable growth is Important if J.M Smucker ( SJM) dividend is to keep growing.

Today, Smucker generates about $2.9 billion in sales from pet food of which 38% is dog food, 28% is cat food, 29% is snacks, and 5% is private label. Smucker has roughly $2.1 billion in sales from coffee of which about 50% is mainstream, 26% is one cup, 16% is premium, and 8% is instant. Lastly, Smucker has approximately $1.7 billion in consumer food sales of which 39% is peanut butter, 17% is fruit spreads, 16% is frozen handhelds, 15% is shortenings and oils, 9% is natural food & beverage, 3% is syrups & toppings, and 4% is other.

As seen in the graph below, revenue has increased over the past decade mostly through acquisitions. This has led to an upward trend in operating income and earnings. In addition, gross margins have been relatively constant over time. However, of concern is that operating margins have been trending down. Net margins have been more volatile. But in general operating and net margins are lower after the 2015 acquisition of Big Heart Pet Brands.

Risks for J.M. Smucker

J.M. Smucker ( SJM) holds some risks for dividend Investors. Smucker has brands that are exposed to private-label competition or arguably do not have significant pricing power. This has led to some market share erosion. For instance, in coffee, Smucker has about 16% of the retail market with the Folgers brand, which is No. 1. However, premium coffees, e.g. Starbucks, are likely to grow faster. The company has addressed this by partnering with Dunkin’ to sell retail coffee. Smucker has also launched Café Bustelo. Regardless, the retail coffee market remains a very competitive one.

In addition, Smucker is relatively small player in all of its markets. The company has a market cap of about $13.3 billion. Starbucks (SBUX) and its partner Nestle (NSRGY) in retail coffee are much larger. Coca-Cola (KO), which is entering the coffee market, is also much larger. In pet foods, J.M Smucker again faces competition from larger players including Nestle, Colgate-Palmolive (CL), and General Mills (GIS). Smucker does have scale in fruit spreads and nut butters and much weaker competition.

The main risk for Smucker is its acquisitive strategy. The above chart illustrates that margins took a hit for several years after the Big Heart Pet Brands acquisition. Further, debt has increased over the past decade. By Q1 FY2019 the leverage ratio was 4.1X, which indicates that the company had too much debt (note that the leverage ratio was over 5.0X in 2015). Fortunately, the leverage ratio has come down to about 3.0X in FY 2021. This provides more financial flexibility but ideally, leverage should come down to about 2.5X or lower.

J.M Smucker (SJM) Dividend Growth and Safety

J.M Smucker (SJM) has grown the annual dividend for 19 consecutive years. At the time of writing, they have a 3% dividend yield. If you prefer companies with a higher yield than I would suggest checking out these 3 compelling High dividend stocks. In the past decade, the dividend growth rate has been 8% CAGR. I expect increases to continue at about the same pace over the next few years. The forward payout ratio is now about 42%, which is in management’s target range of 40% – 45%.

A payout ratio in the aforesaid range is solid and indicates decent dividend safety based on earnings. I like the payout ratio to be less than 65%. There is little risk at the moment of the payout ratio reaching that level with the current payout policy.

On a cash flow basis, J.M Smucker (SJM) dividend is also safe. In fiscal 2020, operating cash flow was $1,442 million and capital expenditures were roughly $273 million. This gives free cash flow of $1,169 million. The dividend requires about $400 million per year giving a dividend-to-FCF ratio of ~34%. This too is a good value and below my criterion of 70%

The one sore spot for J.M Smucker dividend safety is the debt, which was elevated due to acquisitions. However, the company is paying down debt. At end of Q2 2020, short-term debt was $296 million, current long-term debt was $400 million, and long-term debt was $4,673 million. This was offset by only $397 million in cash and equivalents. However, net debt is coming down each quarter as is the leverage ratio. Interest coverage is roughly 10X so Smucker can pay its obligations.

Smucker’s Valuation

Smucker is trading at an earnings multiple of about 13.5X at the moment based on expected fiscal 2021 earnings of $8.63 per share. Smucker has traded at about 17X earnings on average over the past decade. We’ll use 16X to account for margins that are trending down and high debt load. At the current earnings estimate and a 16X fair value estimate we are looking at fair value price of $138.08 based on consensus earnings.

Applying a sensitivity analysis using P/E ratios between 15X and 17X, I obtain a fair value range from $129.45 to $146.71. The current stock price is ~79% to ~90% of my estimated fair value. The current stock price is ~$116.62 suggesting that the stock is undervalued.

Estimated Current Valuation Based On P/E Ratio

How does this compare to other valuation models? Morningstar is known to use a fairly conservative discounted cash flow model and provides a fair value of $108. Due to the high dividend growth rate, we won’t apply the Gordon Growth Model here. An average of these two models is ~$123.04 suggesting that SJM is undervalued at the current price.

Final Thoughts on Smucker

JM Smucker (SJM) is a decent stock to own in the consumer staples sector for dividend growth investors. The company is growing but primarily through acquisitions. That means there is a risk that an acquisition does not work well. Further, Smucker often uses debt, which reduces financial flexibility. That said, Smucker is yielding over 3%, has a growing dividend, and is undervalued at the moment. Investors may want to take a further look at Smucker.

Thank you for reading this review of JM Smucker. Please let me know your thoughts below! If you would like to read about stocks with more of a European Flavour than check out these European Stocks.

Biography

Dividend Power is a leading blogger on dividend growth stocks, financial independence, and retirement. Some of his writings can be found on Seeking Alpha, ValueWalk, The Money Show, Forbes, Insider Monkey, TalkMarkets, Stocktwits, Yahoo Finance, and leading dividend investing blogs. He also works as a part-time freelance equity analyst with a leading newsletter on dividend stocks.

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