With inflation soaring around the world, food prices are surging. And mergers and acquisitions (M&A) among food producers have increased as a result.
Ralcorp twice rejected ConAgra's overtures, but the maker of Slim Jims and Swiss Miss cocoa won't be deterred.
ConAgra's takeover attempt is part of the company's effort to capitalize on a new trend in consumer spending.
And it's something we investors should get in on ourselves. That's why I'm rating ConAgra Foods Inc. (NYSE: CAG) a "Buy" (**).
A Tantalizing Trend
ConAgra Foods was founded in 1919 and is headquartered in Omaha, NE. The company has a market capitalization of about $10.3 billion and an enterprise value of $12.5 billion, once you include net cash and debt.
That makes ConAgra one of the largest brand-name food companies in the world.
Of course, it's not enough to simply be one of the largest companies in a given sector – you have to keep growing and adapting. And that's what is behind ConAgra's attempted takeover of Ralcorp.
ConAgra has looked around at its universe of products and realized that a shift in consumer purchasing patterns is underway.
In simple terms, people are buying cheaper private label products, instead of paying premium prices for name brands. So growing this sector would help ConAgra Foods diversify its revenue stream.
That's why ConAgra is interested in Ralcorp – a company that sells private-label alternatives to brand name foods.
The only problem is that Ralcorp has no interest in being bought out at these prices. It's refused two formal offers – the most recent of which valued the company at $86 a share, or $4.9 billion. Ralcorp has even gone so far as to adopt a "poison pill," setting the stage for higher stock prices or a hostile offer.
Ralcorp has already moved up from the mid-$60 range before the deal was announced to the $80 to $90 trading range.
If ConAgra is serious about forcing a vote at the shareholder level, this deal will drag out until the fall. And that gives us a way to make money while we sit back and watch the fireworks.
So, why am I picking ConAgra Foods, when Ralcorp is demanding even higher prices?
It's simple. If successful, the acquisition would increase ConAgra's private label business by 300%. But if the takeover attempt fails the company can redeploy M&A capital in other ways. ConAgra also would likely see its stock price bounce up, as the risk of overpaying is removed from the equation.
ConAgra stock hit a 52-week low of $21.02 on Nov 16, 2010 and a 52-week high of $25.82 on May 4, 2011. The stock has a trailing annual dividend yield of 3.5% with a current forward yield of 3.7%.
It closed Friday at $25.17 a share.
With more than $10 billion in sales, ConAgra is one of the largest companies in the food sector. It has a vision for the future, and is willing to pay its shareholders a real rate of return via a healthy 3.7% dividend.
While the deal for Ralcorp may or may not be consummated, the vision for tomorrow, along with a healthy dividend, is reason enough to consider picking up ConAgra.
Of course, that doesn't mean we have to be in any rush to snap up shares.
We've already missed the deadline to become eligible for the most recent quarterly dividend payout. So let's be patient and use the current market weakness to write some naked puts to give us a better long-term entry than current market conditions.
If you are looking for exposure to the company, for every 100 shares of stock you wish to own, consider writing 1 naked put contract for September 2011 with a strike price of $23, currently with a bid around 40 cents per contract. The symbol for the contract is (CAG110917P00023000).
This gives you a 10% pull back buffer between current market prices and where your entry would be if the stock price declines during the long summer while the M&A story plays out.
If the stock price does not pull back, or even rises from here, you pocket the cash payment for the put contracts.
(**) Special Note of Disclosure: Jack Barnes has no interest in ConAgra Foods Inc. (NYSE: CAG).
Barnes launched his own shop, RIA, in 2003, just as the second Gulf War was breaking out. In early 2006, after logging a one-year return of nearly 83%, Forbes named Barnes the top stock picker in its "Armchair Investors Who Beat the Pros" competition. His two audited hedge funds generated double-digit returns in 2008.
Barnes retired to the beach in the summer of 2009, and continues to write from there. He's now the author of the popular blog, "Confessions of a Macro Contrarian," and his "Buy, Sell or Hold" column appears in Money Morning on Mondays. In his BSH column last week, Barnes analyzed Exxon Mobil (NYSE: XOM)
News and Related Story Links:
ConAgra's Private Food Fight
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Previous "Buy, Sell or Hold" Features.
Confessions of a Macro Contrarian.