Inflation has weighed on budgets, and that's especially true for grocery stores as prices for essentials, from cereal to sugar, have skyrocketed. This sticker shock motivates struggling consumers to shun their favorite brands in favor of cheaper generics – often made by
TreeHouse (stock exchange symbol: THS) is the only major publicly traded company dedicated exclusively to private label grocery, an area that was expanding before the pandemic and since then has been bolstered by price increases, economic turmoil and stores' desire to sell exclusive products gaining momentum. That hasn't helped the stock, which, due in part to high costs and supply chain issues, is up just 3.3% over the past three years while the S&P 500 is up 39%.
Today's TreeHouse – a key player for retailers, including
(AMZN), Aldi and Trader Joe's – looks very different from 10 months ago. Through a combination of management changes and asset sales, the company has slimmed down and focused more on what it does best: developing great products for companies looking to increase their off-label grocery sales. And that's why JANA Partners, even two years after first investing in the company, is still optimistic about the company's ability to leverage its strengths.
“TreeHouse is one of the few ways to invest [in] two of the strongest underlying megatrends in food,” says Scott Ostfeld, managing partner and portfolio co-manager at JANA, who sits on TreeHouse's board of directors. “The first focus is on the expansion of private label at the expense of national brands by major American retailers, as private label market penetration is far below that in other countries. And second, consumers are about the search for value and affordability.”
It wasn't easy for TreeHouse to get to this point. The company struggled as rapid commodity inflation squeezed already razor-thin margins and supply chain issues impacted operations. The company was also weighed down by poor acquisition integration — mistakes inevitably happen in a business built from dozens of deals — and an underperforming food preparation business, which included products like pasta and syrups. This division has accounted for about 60% of sales over the past several years, but narrow margins and operational woes mean earnings growth hasn't been consistent.
“It's been a very long and difficult road, but after the restructuring, the company is finally in a good position,” says Benjamin Nahum, portfolio manager at the Neuberger Berman Intrinsic Value Fund, which has owned the shares since 2017. “TreeHouse has been tested and the result is a leaner, more profitable company.”
The bigger change may have been selling its meal prep division to a private equity firm for $950 million — or a whopping 14 times earnings before interest, taxes, depreciation and amortization. That's a higher multiple than the stock is currently asking for at 11.8. The move strengthened TreeHouse's balance sheet and left a promising snack and beverage portfolio. Analysts now expect the company's earnings per share to more than double in 2023, to $2.62, on revenue growth of nearly 7%.
“We think it was a great offer, period,” says Nahum. “It was a great transaction that simplified the business.” Ostfeld agrees. “TreeHouse is now a higher growth, higher margin company that should trade at a premium compared to what it has traded historically,” he says.
That hasn't happened yet. TreeHouse stock trades at 17.5 times forward earnings, below its five-year average of 18.7 and that of peers
(POST), at 19.4x. Even a better-than-expected earnings report last month failed to give the stock a boost as poor second-quarter sales forecasts, likely the result of improvements in supply chain that caused orders to be shifted from second to first quarter, weighed on the shares. “This has been a great start to the year for TreeHouse. [which] That included private label growth that exceeded 2019 levels,” writes Bill Chappell, an analyst at Truist Securities, who has a price target of $60 on the stock, up 20% from Friday's close of $49 .84 US dollars.
The next step up could come at TreeHouse's Investor Day on June 13. CEO Steve Oakland says the company plans to give investors a “deeper understanding” of its strategy and its improved capital structure — which made the purchase possible
‘ (FARM) $100 million coffee processing plant and mail order business, announced last week.
The move comes at a time when retailers are looking to elevate their brands with high quality private label products. Though consumers were once skeptical of these no-name options, much of the stigma surrounding them has faded thanks to cult favorites like Costco's Kirkland brand and offerings from Trader Joe's.
(TGT) and Amazon have also continuously built their own brands that are less subject to competition and price comparisons.
The biggest risk could be that a slowdown in inflation and lower prices could result in fewer consumers trading with lower prices. Still, major food deflation is unlikely to materialize, especially as national brands seek to protect their margins amid higher packaging and transportation costs. Meanwhile, consumers still face higher bills for things like housing and childcare than they did a few years ago.
And if the economy continues to weaken, TreeHouse would likely benefit as well. “At least TreeHouse is a place to hide out in an uncertain market,” said Chris Terry, portfolio manager at Hodges Capital, which owns the shares.
Talk about comfort food.
write to Teresa Rivas at [email protected]