It
has an attractive dividend history
It
will benefit from low energy prices
It
is emerging from the cloud of merger uncertainty
Earnings
need to improve in order to justify current stock prices
Its
US focus is attractive and could offer portfolio benefits
As one of the dividend aristocrats, Sysco is, or has
been, in the portfolio of many dividend- growth investors. The company’s failures to produce earnings
growth as well as high price earnings ratio have probably taken it off the
radar of many dividend-growth investors.
However, there are reasons to keep the stock on one's watch list.
An article on SeekingAlpha entitled “Sysco: Plunging Gas Prices, US Foods Merger Will Benefit The Company” illustrates the
issue. It points out the benefit that
Sysco could derive from lower energy costs and its merger with US Food. However, it goes on to point out that by many
metrics Sysco's stock is overpriced.
Looking just at those factors, the merger with US Food would have to be a
significant catalyst for improvement before the stock would become appealing. That certainly is a possibility, but without
some evidence that it is occurring, it alone is not a convincing investment
thesis. It justifies watching the
company's performance but not necessarily purchasing a significant position in
the stock.
However, there are other reasons to consider Sysco. The SeekingAlpha article focused on the
benefit plunging oil prices would provide as a result of Sysco’s energy
consumption. That reduced cost to the
company could improve profits and margins.
There is another impact that the market may be overlooking. That is the influence of energy on the demand
for Sysco's services.
Food away from home, the source of demand for
Sysco’s services, is influenced by energy prices in two ways. Reduced gas prices lower the cost to the
consumer of going out. The cutback in
driving associated with high energy prices usually focuses on long trips, but
it probably also influences local discretionary driving such as going out to
eat. Lower gasoline prices would reverse
that impact. Second, the US consumer is
a major beneficiary of reduced energy costs.
As a discretionary purchase, food away from home will be a beneficiary
of the increase in discretionary income of consumers. A previous posting entitled “Markets in Motion” expressed some skepticism about analysts’ estimates of the impact of oil
prices on earnings. Specifically it
stated: “While the energy sector’s earnings will be reduced, earnings in some
other sectors will benefit.” Sysco is an
example of the company that could be a beneficiary.
The current raft of earnings
reports where negative currency translations have resulted in earnings that
disappointed investors has probably provided an investor with an intuitive
understanding of what generalized foreign currency exposure means. For anyone who still does not understand why
foreign currency exposure is important, a quick reading of two recent WALL
STREET JOURNAL articles should help.
“Swiss Franc’s Leap Lifts Some FX Brokers”
on Monday, January 26 and
“Currency-Trading Volumes Jump” on January 28 both make mention of the amount
of money involved in currency trades.
When more than $4 trillion (note that's trillion with the t) is flowing
in a single day, it will easily overwhelm any actions taken by the management
of any corporation. Sysco's US focus
means it is not as exposed to currency risk as many other corporations.
At the same time, there is a
potential benefit to Sysco from the strong dollar. A strong dollar will reduce the price of
imports. Consumers of imports, US
citizens for short, will be beneficiaries of those lower import prices. That will increase their discretionary income
which could benefit Sysco if it results in increased demand for food away from
home.
Reduced cost as a result of
lower energy prices, reduced risk as a result of its US focus, and the economic
tailwinds that could result in an increase in demand for Sysco's services, are
all factors that will take time to have any impact on Sysco's
profitability. So, it would be a bit
naïve to expect them to have their major impact on the upcoming earnings
report. They might, but waiting for the
earnings report and carefully examining it for any indication that these factors
are starting to show is a viable strategy.
There is a difference between operating in an economically beneficial
environment and actually benefiting from it.
The latter requires that management capitalize on the beneficial
economic environment.
Despite the cautions above, I have initiated a
position in Sysco due to portfolio considerations. A previous posting entitled
“Rebalancing and Risk” discussed why an investor might want to reduce his or
her exposure to generalized tail risk. It focused on mutual fund holdings and on tail risk. However, even
without tail risk, many investors, especially those seeking dividend growth,
may have significant exposure to a large number of multinationals. As a consequence, they may have taken on a
substantial amount of generalized foreign exchange exposure. That would not be the case if one is loaded
up on REITs, pipelines, US banks and utilities.
However, a previous posting, “The Widows’ andOrphans’ Portfolio and US Banks,” presented a core portfolio for a buy-and-hold
investor. With the exception of Verizon,
all of the holdings are multinational.
As a core portfolio, many of the stocks have been held for a long time
(decades) and represent significant portions of the total portfolio. Also, the posting suggested that an investor,
at least this investor, might want to avoid regulatory risk. It is difficult to find utilities and banks
where the regulatory risk is acceptable.
Even pipelines and some REITs have regulatory risk. As
consequence, many of the non-core holdings are similar to those discussed in
the posting.
Investors can find themselves in a position of
searching for domestic exposure that is relatively “regulatory risk
free." Sysco is such an
investment. There is no magic formula
that can tell the investor how much of their portfolio to shield from foreign
exchange fluctuations or, for that matter, regulatory risk. With only 10% of my portfolio distributed
across seven stocks that are primarily domestic in their orientation (NNN, GAS,
HCN, WTR, WFC, TRP, VZ) Sysco is appealing from a portfolio perspective.
Given that conclusion, two issues remain: what role
will it play in the portfolio, and when and how should it be acquired. Regarding the first issue, a SeekingAlpha
article entitled “Modern Graham Quarterly Valuation Of Sysco Corporation”
provides pretty good guidance on what role it should play. It will not be a core holding, but it is not
totally a speculation.
Timing the acquisition of any stock is always an
issue. A good stock at a bad price is
not a formula for success. Thus,
acquiring some of the intended position ahead of earnings may work for some
investors, but given the economic tailwinds that could benefit Sysco, putting
it on a watch list and examining its earnings release closely is a justified
use of time for many investors. The
company has become very interesting again.
No comments:
Post a Comment