I recommended purchasing Tyson Foods
(NYSE:TSN) last October
at $16, as the market overdiscounted the effect of the drought in the US Corn Belt, and the stock was very cheap on normalized earnings per share. At the end of January
, I stated that Tyson was efficiently valued at $23 as some winter snows and the expectation of more ground moisture in the western Corn Belt were positive signs. A Merrill Lynch analyst also then initiated a buy recommendation on the stock while using EPS estimates that were above normalized levels.
The stock price continued upward as the US corn crop started to look pretty decent. Additionally, the announced acquisition of Smithfield Foods
(NYSE:SFD) by Shuanghui International
(SHE:000895) and avian influenza in China focused investors on opportunities in pork and chicken there over the longer term. Some spillover from the rally in branded consumer staples stocks was another plus.
Presently, using a fiscal year 2014 estimated EPS of $2.80, and assuming a 4% growth rate (my longer-term EPS growth rate) for 2015, you get $2.91. At $30 and using a 4.2% risk-free rate (3.8% long Treasury bond plus 40 bps of windage against quantitative easing) and a 7% risk discount, the stock looks somewhat cheap, seeming implying only a 3% long-term growth rate.
However, back in January, my range of normalizable EPS for Tyson, based on company-given ranges for beef, pork, and chicken, was $1.93-$2.75 (I had used $1.93). Rolling that forward one year at a 4% growth rate results in $2.01-$2.86.
Being realistic about most of management’s comments and realizing that all three proteins are very unlikely to operate at the top of their normalized ranges in any one year, I think $2.01 and the midpoint of $2.44 are the numbers to focus on.
At a $30 price and $2.44 of normal EPS, the stock discounts a 7% five-year growth rate, equal to the sell-side average estimate, which, from experience, is likely to be too high. I believe that a growth rate of 4-5% is much more likely.
Using $2.01, the stock discounts an absurd 12% five-year growth rate. So I believe that the stock will end up in the $24-$26 area, as even not particularly bad news is magnified at a high valuation.
That process would seem to be starting. My best guess is that the USDA Chicken and Eggs Report, which showed a 4.6% year-over-year increase in the breeding flock, and the Pro Farmer 2013 Crop Tour, which just released its below-USDA estimates for corn and soybean harvests, were on the mind of the Merrill Lynch analyst who removed his buy rating today.
No positions in stocks mentioned.
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