Warren Buffett's Sweet Tooth
Sep 10th 2013 6:27PM
Updated Sep 10th 2013 6:28PM
Berkshire Hathaway has interests in several delicious companies, it owns See's Candies and has an undisclosed stake in privately held Mars after helping the company buy Wrigley.
Obviously Warren Buffett believes there is no dearth of candy lovers in the US now or in the future. You can go to the annual shareholders' meeting and buy See's Candy. Warren wrote in his annual letter to shareholders," Anyone who says money can't buy happiness simply hasn't shopped at our meeting."
If you agree with Warren's sweet-tooth thesis, there are only a few candy stocks out there. Hershey , the nation's largest confectioner, Tootsie Roll Industries , and not a totally pure play Mondelez International , the international company that spun off Kraft Foods last October.
There's no better time to invest in these candy companies with only two months until Halloween and four months until the holidays. Note that snack and candy companies traditionally have pricing power as they are a low-cost indulgent impulse purchase and consumers rarely notice price increases. If you want a sweet consumer defensive with yield, Hershey may be the best bet.
Despite working with a commodity that encounters wild double-digit swings in price, cocoa, Hershey has enjoyed appreciation of 248.4% in the last decade. It has a yield of 2.1%, increased every year for the last four decades except in 2009. The payout ratio of 51% is close to the industry average of 52%.
The company has grown EPS by 21.3% over the last five years by various cost efficiencies, like overhauling and modernizing a factory in West Hershey, Pa. as part of its Project Next Century program. Operational savings from the project are supposed to be fully realized in 2014. Charges related to the program raised the cost of sales 8.6% in the first half, as noted in the company's latest 10-Q .
While its price-to-sales ratio at 3.1 is higher than the industry average of 2.6, its price-to- free-cash-flow ratio is lower at 44 to the industry's 96.4.
Mondelez should be looking over its shoulder at Hershey, which has introduced new candies into China and expanded manufacturing in Brazil. Hershey is already operating in over 90 countries. Hershey dearly wanted Cadbury's and lost it to Kraft. It purchased Brookside Foods, a Canadian candy maker in 2012, whose products will be launched in this year's second half along with Kit Kat minis, Twizzler bites and Jolly Rancher bites. This is significant as the company has expanded its line of these diminutive (enough to enjoy, not enough to share) treats over the last year as a form of portable happiness.
To support these launches, advertising expenses rose 22% from last year's quarter and will again rise in the back half to support China and Brookside. The company also opened an innovation center in Shanghai in May to research and develop products for the Chinese market, its fastest growing market.
Hershey guided for a 310 to 330 basis-point expansion to gross margins on a reported basis for 2013 and a 7% increase in net sales.
After the Kraft spin-off, Mondelez kept Oreo, Tang, Nabisco, Philadelphia Cream Cheese, Cadbury, and Trident gum. It sells to 165 countries and has leading market share globally in biscuits, candy, gum, and powdered beverages.
The company offers 1.8% yield, but growth of 11% is expected to compensate for the lower yield and the company recently raised the yield by 8%. It also authorized a $6 billion share repurchase.
Activist investor Nelson Peltz took a stake in Mondelez worth $474 million even as Buffett shed 92% of his position . For several months, it has been rumored Peltz wants PepsiCo to buy Mondelez and that has generated interest in the stock.
Mondelez's price-to-sales ratio 2.2 and is lower than Hershey. Its price-to-book ratio at approximately 1.8 is lower than the industry average of 2.6. Overall, margins are higher at Hershey, though. And price to free cash flow is much higher at Mondelez at 144.0 compared to Hershey.
Mondelez recently reported second-quarter adjusted EPS of $0.37 for a 5.6% increase year-over-year. The investment thesis on Mondelez is its international and in particular, emerging market growth, with impressive double-digit revenue growth in BRIC markets reported.
Harvard grad students invented a licking machine to determine how many licks it would take to get to the center of a Tootsie Pop (2,255).Tootsie Roll seems to grow as slowly, with brands the Wall Street Journal characterized as "antique."
The company's yield is 1.0% and the price-to-sales ratio is the highest of these at 3.7. Tootsie Roll has been under control of members of the Rubin-Gordon family since the Great Depression. The board has been characterized as secretive and a crony culture by The Wall Street Journal with average tenure of three decades.
Mario Gabelli increased his stake in 2008 to 6%, anticipating Tootsie Roll would be a buyout target. Total revenue for 2012 was $549.9 million, and with $214 million in the first half of 2013 it may have trouble beating 2012's number.
The company isn't compelling to a long-term investor. It has little innovation, secretive management, and a ho-hum yield. Not to mention it trades at a trailing P/E of 37.6. Hoping for a buyout already wasted five years for Gabelli.
Sleep happy at night
Put a little Hershey under your pillow and sleep at night with its yield and international growth prospects. Mondelez is interesting only as Peltz pushes for a buyout and its emerging market growth. As for Tootsie Roll it is just too opaque and old fashioned.
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The article Warren Buffett's Sweet Tooth originally appeared on Fool.com.AnnaLisa Kraft has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.