By David Nelson, CFA
With sales growth stagnant for many of our nation’s leading consumer brands, growth investors have found the sector problematic. More than 2/3 of companies represented in the consumer staples sector of the S&P 500, have underperformed the index in 2013.
The saving grace for some of America’s largest brand names was supposed to be the emerging markets. No question sales potential in China, South America, Africa etc. is an enormous opportunity but at what cost to margins. It’s hard to imagine Coke (KO), Proctor & Gamble (PG), McDonalds (MCD) and others being able to extract the same margins in countries where incomes are significantly below that of the U.S.
No, if I’m looking for growth I have to turn elsewhere. YOU ARE WHAT YOU EAT! Healthy food has gone beyond just a niche industry to a multi-billion dollar growth machine that is sweeping the U.S. and world by storm. Increasingly, consumers are turning away from fast food seeking a healthier lifestyle. There’s even evidence that for the first time under 30 adults and teens are starting to take the plunge. In a recent research note, Piper Jaffray Analyst Pamela Steensland points out that; “teens are increasingly choosing organic food options, with 39% eating organics versus just 33% two years ago…
It’s hard to walk down the aisles of Whole Foods (WFM) or the health section of any supermarket without bumping into a brand name under the Hain Celestial (HAIN) umbrella. Irwin Simon, founder and CEO/Chairman* is considered by many to be a pioneer and visionary in the natural and organic products industry. I had the pleasure of meeting Mr. Simon early in my career at Merrill Lynch when he was just in the process of launching HAIN as a public company. The early years were problematic with HAIN struggling to make earnings and growth targets. As a result the stock was stuck in a range essentially going nowhere for almost a decade.
CEO Irwin Simon with Mad Money’s Jim Cramer
Suddenly, almost without warning it looks like Mr. Simon and HAIN have found the right formula. Since breaking out in 2012 the stock has never looked back with shares more than doubling since then. The vision of acquiring top-notch bands in the organic and natural foods space is finally hitting critical mass. The public’s increasing desire to live healthier and willing to pay up for that privilege has created a secular tailwind that is probably just in its 3rd inning. Lastly, Mr. Simon has learned the fine art of balancing investor expectations with long-term company goals.
In his initiation of coverage last month, analyst David Palmer of RBC Capital Markets pointed out that “Hain Celestial has turned the corner in key areas such as brand building…” Barclays’ U.S. Food analyst Andrew Lazar hits the nail on the head in a recent research note saying, “while the stock’s premium valuation admitted leaves little room for error, we believe it is justified, given the positive momentum in HAIN’s business and the scarcity value of the company’s growth.”
Secular growth stories aren’t cheap and that’s certainly the case in the health food space and HAIN. We see this dynamic in other secular growth industries like the cloud, online retail etc. While health food isn’t as sexy as the cloud, the tailwind seems undeniable as consumers seem willing to pay up for that healthier lifestyle.
For growth investors the direction of the fundamentals is just as important as valuation. Any change in growth or guidance is dealt with swiftly. (HAIN) shares currently trade at 27X 2014 calendar estimates with year over year growth of 22% this year and 15% next.
Click on Chart to Enlarge
Entry Points
The stock has broken out to another all-time high but as you can see in the chart, there have been plenty of opportunities to enter closer to the 50 day moving average. Show a little patience but get involved in this name soon. Generally, when I want to initiate a position in a stock whose chart is extended I buy a partial position adding on any pullback. Bull markets often don’t give you an opportunity to get in. I find it’s better to at least get my foot in the door. Analyst’s targets are currently in the mid 90’s so there will be the inevitable downgrade on valuation. That’s where we can pick up the remaining shares.
Risk or Opportunity
The biggest risk for Hain Celestial is traditional food giants making a bigger push into the health food space.
The other side of that argument is also possible. Rather than growing your health food division internally, why not just buy it off the shelf? With a market cap of only $4.3 Billion and an enterprise value just under $5 Billion, a (HAIN) takeout is hardly out of the question. Out of the box, you get a cracker-jack management team and a portfolio of some of the top health food brands that took decades to assemble.
Before the rumors start flying let me say right here; “I have no knowledge of any such deal and an investment in (HAIN) should be made on its stand-alone merits.” I merely pose this as a logical possibility.
Full Disclosure: Funds managed by David Nelson currently own (HAIN) shares.
** I’ve written many times about my objection to the role of Chief Executive Officer and Chairman being held by the same person. HAIN doesn’t get a pass here. While I believe Mr. Simon is one of the best in the business, I still think shareholders are better served when the roles are split.
