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High-yield dividend stocks are often a red flag. If investors don’t trust dividends, stock prices will fall and yields will skyrocket. Companies that consistently raise their dividends get a green light. Increasing dividends shows that management has confidence in the business.
So what happens when a Dividend King, a stock that has increased its dividend for over 50 consecutive years, trades at the highest dividend yield in history? hormel food (NYSE:HRL) Find yourself today.
The problem is that Hormel’s yield is opportunity or trap.
Here’s what you need to know:
Hormel’s recent setbacks
Hormel Foods sells a variety of processed foods and meats to retailers and restaurants around the world. Some of the company’s best-known brands include Spam, Skippy, Planters, Jennie-O, and Hormel brand meat products. The company has been in business for generations, but you can see below how its revenue and operating margins have declined in recent times. Note that the significant increase in revenue was due to the acquisition of Planters in 2021.
What is the culprit? The pandemic caused supply chain disruptions and inflation, putting pressure on Hormel in 2022 and continuing into 2023. Management cited operational changes and investments to address supply chain issues. The transformation, which management says could add an additional $250 million to operating income by 2026.
Additionally, Hormel has been grappling with difficult issues such as bird flu and weak markets, which have hurt its international operations, particularly in China. Fortunately, management expects this situation to start improving in the fourth quarter of 2024. Ultimately, Hormel should be judged on its financial strength, as it has no control over issues such as bird flu and the broader market downturn.
Get off to a solid start in 2024
When Hormel recently reported its earnings for the quarter ended January 28, management had some good things to say. The company reaffirmed its full-year outlook, citing growth in its food service division and expectations for a recovery in international sales. Sales volume increased by 11% year-on-year due to increased exports, which is expected to lead to an increase in sales as the Chinese market recovers.
The company’s operating margin fell to 9.5% from 9.7% a year ago, but investors should note that it will start to turn around. Supply chain transformation should start to have a larger impact over the next two years, as it is not expected to contribute much to revenue in 2024.
Overall, Hormel’s fiscal year 2024 got off to a solid start. The next three quarters will be important in providing numbers that support the idea that Hormel’s efforts to improve profitability are bearing fruit.
Are dividends safe?
For now, Wall Street appears reluctant to give Mr. Hormel any profits. You can see that Hormel’s yields have never been higher. Over the past five years, stock prices have fallen and dividends have increased. Is Hormel’s financial situation as dire as its dividend yield would lead investors to believe? good, not much.
The dividend payout ratio is 76% of cash flow, so there is still room to pay dividends. Over the past year, the company had operating income of about $1 billion and free cash flow of $777 million. If management can meet its goal of increasing operating income, Hormel’s dividend will have plenty of headroom.
Additionally, the balance sheet is in good shape. Management has traditionally been conservative with debt, but made an exception in 2021 when it acquired the Planters Nuts brand for $3.35 billion. That said, leverage is still only 1.9x net debt to EBITDA. This is well below the ratio of 3 that I would normally start worrying about.
The verdict is…
There is no doubt that Hormel is experiencing some hardships and blemishes today, but the company is still very solid financially. This is not a yield trap. Hormel is a good dividend stock to buy and hold for the long term. The market could even push stock valuations higher if it becomes clear that these challenges are a thing of the past.
The company currently trades at a forward price/earnings ratio (PER) of just over 19 times. Analysts are currently downplaying the stock, predicting mid-single-digit earnings growth over the next three to five years. But if management’s transformational changes lead to a $250 million increase in operating income, Hormel should have no problem beating analysts’ expectations.
Should you invest $1,000 in Hormel Foods right now?
Before buying Hormel Foods stock, consider the following:
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Justin Pope has no position in any stocks mentioned. The Motley Fool has no position in any stocks mentioned. The Motley Fool has a disclosure policy.
This Dividend King’s yield has never been higher. When is the time to buy stocks?Originally published by The Motley Fool
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