Monday Losers: Profits Slow for this Food Distributor

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Today's market action is a rising tide that is lifting all boats. Well, almost all of them. Dean Foods ( DF ) , which makes a wide range of products found in the dairy section of supermarkets, hit a 52-week low after announcing that pricing pressures are forcing profit margins down to historical lows. Many supermarket chains sell their own dairy brands, and are sharply marking them down to bring in foot traffic. Dean, which tries to garner a price premium for its branded products, is ill-equipped to fight that battle.

Per share profits of $0.24 trailed the consensus forecast by $0.04, but more importantly, were less than half the take from a year ago. At this point, investors must try to assess a value for a stock that represents very limited top-line growth and a shrinking bottom-line. Don't look to the balance sheet for value -- Dean Foods carries more than $4 billion in debt. That adds up to $58 million in interest expense every quarter. Operating income is about twice that, but the company won't be able to handle deeper price pressures. And you can forget about management's hopes to grow by acquisitions. The company would be hard-pressed to take on even more debt than it already has.

Shares of Dean Foods have steadily fallen throughout much of the last five years, and even as they sit at lows, they have more room to fall. The high level of debt, shrinking profits and brutal competitive environment is likely to force investors to keep fleeing this stock in the sessions to come.

Company Name (Ticker) Intra-Day Price Market Cap 52-Week High 52-Week Low 2010* P/E 2011* P/E
Dean Foods ( DF ) $10.86 $1.9B $22.09 $10.58 7.1 6.3
Imperial Sugar (Nasdaq: IPSU) $13.31 $163M $18.52 $7.05 Neg. 17.5
Moody's ( MCO ) $21.30 $5.0B $31.71 $18.50 11.3 10.0
McGraw-Hill ( MHP ) $28.33 $8.9B $36.94 $23.55 10.7 9.6
*Based on consenus estimates prior to recent earnings release

Also in the food sector, shares of Imperial Sugar (Nasdaq: IPSU) are off roughly -10%, as hedging activities created a quarterly loss. Management uses price hedges to guard against big swings in the price of raw sugar, but gross margins would still have been zero even without these unhelpful hedges. Imperial profits from the value-added conversion into refined sugar, but there is often a lag between price spikes for raw and refined sugar. In this quarter, that lag was apparent.

But often times the company maintains a respectable spread between those two factors. For example, Imperial Sugar earned more than $3.50 a share in fiscal 2006 and 2007 (though it lost roughly $2 a share in the two most recent fiscal years).

The profit picture should brighten in coming quarters. For starters, a refinery plant that had undergone renovations is slowly moving back up to full capacity and should have higher output in coming quarters. In addition, Imperial Sugar should benefit as some beverage producers move away from the use of corn syrup and back to cane sugar. Even if it takes a while for those factors to come into play, investors can seek solace in the stock's tangible book value , which works out to around $19 a share, well above the sub-$14 current share price.

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Moody's ( MCO ) is slumping roughly -10% on Monday after announcing that the Securities and Exchange Commission ( SEC ) would like to have a sit-down over Moody's admission that it didn't follow protocols when establishing debt grading criteria. This news comes at a time when Moody's and Standard & Poor's are already under fire for potential complicity in the mortgage meltdown.

The real question is whether the SEC's investigation (and resulting fine) will lead to profound structural changes in the way these firms operate. They have historically operated with very limited competition, which has been great for pricing and profits. In 2007, Moody's posted 50% operating income and 31% net profit margins -- among the highest of all publicly-traded companies. Margins have cooled since then, but are still very impressive. If all of this blows over, then shares of Moody's are a steal at 10 times (likely depressed) earnings. Closely watch these investigations. If they are resolved in a fairly benign fashion, then shares are ripe for a rebound.

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In a similar vein, McGraw-Hill ( MHP ) is also off sharply, even though its Standard & Poor's agency has not yet formally come on the SEC's radar. McGraw-Hill made no mention of any such activities in its 10-Q filing, and may simply be suffering from guilt by association.

-- David Sterman
Contributor
StreetAuthority

Disclosure: David Sterman does not own shares of any security mentioned in this article.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

© Copyright 2001-2010 StreetAuthority, LLC. All Rights Reserved.


This article appears in: Investing , Stocks

Referenced Stocks: DF , IPSU , MCO , MHP , SEC

David Sterman

David Sterman

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