On May 26, 2009, I recommended buying shares of General Mills Inc. (NYSE: GIS) stock. Investors who took my advice then would have paid about $52.61 for the stock, which is currently trading at $70.96 a share, resulting in a gain of about 35%.
The stock at the time had been neglected and offered a very compelling risk-reward situation, especially considering the market conditions. But the market often takes some time to recognize tremendous opportunities that to others seem obvious.
That was the case with General Mills, which has been successful for decades. Strong execution and a strong product lineup in a stable business have led to sustained capital formation that weathered the debacle of 2008 relatively well. The 30% drop the stock suffered turned out to be a gift for investors, as it has completely reversed course.
In fact, GIS earlier this month hit a fresh all time high of $72.25. The question now is: Can General Mills keep it up?
Well, the company beat analysts' expectations in the last two quarters on the basis of margin expansion. It also surprised analysts by raising guidance as it moved forward.
At this point, the stock is trading at a reasonable price-to-earnings (P/E) ratio but at an extended price-to-earnings-to-growth (PEG) ratio. So it would appear that we are paying too much for the growth and security of this company. But this latter statement would be true, if and only if, GIS fails to deliver growth, which so far it hasn't.
However, there are a few other downside risks that do warrant concern:
- Merger and acquisition (M&A) activity in the sector – with Kraft Foods Inc. (NYSE: KFT) buying Cadbury PLC (NYSE ADR: CBY) – is pushing up valuations through higher earnings multiples.
- The U.S. Federal Reserve will soon be winding down its stimulus measures and gradually exit its quantitative easing.
- And the recent shift in U.S. Senate seats and the Obama administration's intention to tax banks and increase banking regulations pose some short-term risk for the market. Specifically, it could limit the type of leverage that banks can take, thus limiting the leverage in the economy.
But GIS should typically outperform the Standard & Poor's 500 Index even if these factors lead to a market correction in the United States. Any correction in the stock should be pretty shallow – a 17% decline would be my very worst-case scenario.
Of course, that's unlikely to be the case. At the pace of General Mills' earnings growth, multiples are sure to be coming down fast if the stock just remains stable for a while. This very well-managed firm continues to execute at a very high level. Remember, General Mills managed to push its operating margin to 20%, even while jacking up advertising and media by 37% year-over-year.
General Mills has operations in 130 markets around the world, which means it is less reliant on the U.S. economy than in the past. The company's successful brands like Cheerios and Haagen-Dazs have even been introduced to some 35 emerging markets. And General Mills has some 150 new products that it intends to launch globally.
With strong, stable margins and global sales growth, General Mills has rapidly increased its cashflow. And that allows for all sorts of nice things for investors, including the possibility that the company will increase its very safe 2.7% dividend yield, buy back its own stock, or even acquire a less capitalized brand at a discount.
In addition, a stronger U.S. dollar could further help margins by reducing the price of commodities. However, this is a double-edged sword, because a stronger dollar would detract from foreign earnings. I am less concerned about the latter effect, though, because of the strength of General Mills' overseas initiatives.
So we are going to stay mounted on this horse and look to enlarge our position if it dips. Long-term holders will continue to be handsomely rewarded. And this is what really matters for people like Warren Buffet, whose preferred holding period is forever. While we do not advocate that mentality in any stock, especially these days, General Mills is a stock you can invest in confidently.
Shares of General Mills on Friday closed down 16 cents, or 0.22%, at $70.96. That's 53% higher than their 52-week low of $46.37 and just shy of their 52-week high.
Recommendation: New buyers should start buying General Mills at market over the next couple of months. Investors that already own General Mills should look to increase their position over the next couple of months, should you see any weakness (**).
(**) – Special Note of Disclosure: Horacio Marquez holds no interest in General Mills Inc.
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