McCormick Is Facing Headwinds

McCormick & Co. Inc. (NYSE:MKC) is a global food company that specializes in spices, seasoning mixes and condiments.

Its Consumer segment provides spices under the McCormick, Frenchs, Franks RedHot, Lawrys Cholula Hot Sauce, Gourmet Garden, Club House and OLD BAY brands in the Americas. International brands include Ducros, Schwartz, Kamis, Drogheria & Alimentari, Vahine, DaQiao, McCormick, Aeroplane and Gourmet Garden. Regional American brands consist of Zatarains, Stubb's, Thai Kitchen and Simply Asia.


The Flavor Solutions segment offers institutional products to food manufactures and distributors, including seasoning blends, spices, herbs, condiments, coating systems and compound flavors.

In recent years, consumer trends have leaned toward more flavorful and international style cooking. This often involves substituting sugar and salt for a variety of different spices, particularly hotter and exotic flavors. This has historically led to strong increases in spice sales for the company.

Founded in 1889, the company is expected to generate $6.5 billion in revenue this year and currently has a market capitalization of $19 billion.

Financial review

In September, McCormick reported preliminary operating results for the quarter ending Aug. 31. Sales are expected to increase 6% on a constant currency basis with strength in both the Consumer and Flavor Solutions segments. Adjusted operating income is expected to be $226 million compared to $272 million in prior-year period. Earnings per share is expected to be 65 cents compared to 80 cents a year ago. The company is not immune from supply chain issues, inflationary costs and slowed demand.

"During the third quarter, supply chain challenges continued, and supply recovery of certain constrained materials has taken longer than expected," Chairman, President and CEO Lawrence Kurzius said. "We also continued to incur elevated costs to meet high demand in some parts of our business, while in other parts of our business, where demand has moderated, we are experiencing lower operating leverage. Across the supply chain, managing inventory levels and eliminating inefficiencies have been a focus. Overall, the normalization of our supply chain costs is taking longer than expected, pressuring gross margin. Over the coming months, we will be aggressively driving the elimination of supply chain inefficiencies."

As of the last balance sheet reporting date, the company had $325.8 million in cash and total debt of $5.4 billion. With $1.3 billion in Ebitda expected this year, the companys leverage ratio is above average at approximately 3.8 times.

McCormick Is Facing Headwinds
McCormick Is Facing Headwinds

Valuation

The company recently provided updated 2022 earnings per share guidance, which is expected to be in the range of $2.63 to $2.68, as compared to previously reported guidance of $3.03 to $3.08 and adjusted earnings per share of $3.05 in 2021. Consensus analyst EPS estimates for the fiscal year ending November 2022 are $2.65.

The companys valuation levels appear to be elevated even when using forward looking earning per share next year as the company returns to more normalized margins. A ratio of 25 times forward earnings per share and a estimated enerprise value-Ebitd ratio of 19 times makes for an expensive stock.

The GuruFocus discounted cash flow creates a value of $52 using next year's estimates of $2.90 and a 10% long-term growth rate. The company pays an annualized cash dividend of $1.48, which equates to a 2.08% dividend yield.

Guru trades

Gurus who have purchased McCormick stock recently include Mario Gabelli (Trades, Portfolio) and Joel Greenblatt (Trades, Portfolio).

Conclusion

Major potential challenges still exist for the company, including slower-than-expected category growth, increased private label penetration, inability to pay down total debt and disruption of operations from the implementation of a new enterprise resource planning system.

McCormick is an iconic company with a storied history and continued potential for strong growth. The current headwinds of inflation, supply chain issues and geopolitical conflict may prove to be temporary. However, the high valuation levels still make it tough to create a margin of safety at current price levels. A lower entry point may be warranted for investors.

This article first appeared on GuruFocus.