This Is Hormel's Worst Business Right Now

Protein-focused packaged food maker Hormel Foods (NYSE: HRL) does things its own way, which has been a long-term plus for the consumer staples company. However, one of the key ways in which it has differentiated itself is currently hitting a COVID-19-related headwind.

Here's what's going on, and why it's holding Hormel back at a time when other packaged food makers are benefiting.

Lagging behind the pack

The U.S. stock market fell briefly into bear territory in early 2020, driven by fears around the coronavirus pandemic. However, with people socially distancing and staying at home more, this year has been pretty good to makers of packaged foods. But since March 1 (when the market was in the midst of a recessionary downturn), Hormel Foods stock is only up around 12%. That isn't a particularly impressive showing, especially in comparison to its peers.

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Competitors like Mondelez, General Mills (NYSE: GIS), and even long-struggling Campbell Soup stock prices are up 20%, 29%, and 31%, respectively, over the same time frame and have easily outdistanced Hormel Foods. The story for this trio is pretty simple: They sell staple products that consumers are buying in greater numbers during the pandemic.

To put a number on that growth, General Mills reported fiscal-first-quarter results in early September, highlighted by a 10% year-over-year increase in organic net sales. That's a huge number for a packaged food maker. But the same things benefiting General Mills should, broadly speaking, be boosting results at Hormel Foods, too -- and there's a material difference between Hormel and most of its peers.

Selling direct

The first differentiating factor with Hormel is that it focuses its business around protein-based products. That, however, isn't the big problem today. In fact, the pandemic actually helped improve retail sales in the company's Jennie-O Turkey business, which had been struggling for a few years. But this division also highlights the problem, because overall Jennie-O's sales were down more than 9% year-over-year in the fiscal third quarter. The issue is that not all of the turkey Hormel sells goes into the consumer space -- a material portion of this division's sales comes from the food service industry, which was not operating at full capacity in the fiscal third quarter.

HRL Chart

HRL data by YCharts. Starting date for chart is March 1.

In fact, Hormel generates nearly a third of its sales from its food service segment. Historically, that's been a very good business for the company, with consumers increasingly eating away from home. Hormel, unlike many of its peers, actually maintains a direct relationship with food service customers: It differentiates itself by working with restaurants to create products that meet their unique needs. For example, Hormel's high-quality pre-cooked bacon removes a material burden on kitchen staff that would otherwise have to assign a person to the job of watching the bacon. That sounds like a small thing, but in a business with tight margins it makes a difference.

Today, however, the efforts to contain COVID-19 have closed non-essential businesses (like restaurants) and kept worried consumers eating at home. The food service division, which had long been a net positive, is now a material drag. It's a big number, too, with CEO Jim Snee noting during Hormel's fiscal-third-quarter earnings conference call that food service sales were down a painful 19%. So roughly a third of the company's business is hurting in a big way. No wonder Hormel's stock is lagging those of peers that are more heavily focused on selling through grocery stores. Worse, there's no way to tell when things will turn around, since the driving factor is the pandemic.

Not as terrible as it seems

If you own Hormel or are looking to buy it, you need to understand the unique situation with the food service division. That said, Hormel's overall sales were still up 4% in the fiscal third quarter, showing that the rest of its business is doing quite well -- well enough to offset the weakness in food service sales. But there's no reason to think that Hormel will suddenly catch up to peers, at least not until the world has a better handle on COVID-19. Indeed, as long as people avoid eating out, Hormel's business will be dealing with an extra headwind that many of its peers aren't facing.

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Reuben Gregg Brewer owns shares of General Mills and Hormel Foods. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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

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