This Company Could Be In The Economic Sweet Spot

President Obama hasn’t come out with his own “crisis of confidence” speech as did President Carter, but there is definitely an air of economic malaise that is holding the country back. 

Even as unemployment has dropped to below 5% and job numbers have risen, the U.S. economy has continued to struggle to post any kind of substantial growth. Four of the past five quarters have seen GDP growth of 2% or less, which is not the kind of progress you would expect in a bull market.

#-ad_banner-#But there is a glass-is-half-full perspective to this new normal of slow growth. One sector may be in an economic sweet spot where it benefits from low input costs and enjoys pricing power that will help margins expand.

There is one company within this sector not only benefits from the economic outlook but also from the potential for several big catalysts that could play out before the end of the year.

Is The New Normal Of Weak Economic Growth Bad For All Stocks?
The advance estimate for U.S. second quarter GDP growth will be released on July 29, with market expectations for 2.3% on a seasonally adjusted annual rate. That would be more than twice the 1.1% booked over the first three months of the year, but are we really at a point where 2.3% GDP growth is a welcome rebound?

Record low interest rates and uncertainty over monetary policy in the United States, as well as sluggish growth in the rest of the developed world has led to an economic malaise not seen since the late 1970s.

GDP growth has fallen for three consecutive quarters, and corporate America is expected to book its fifth straight quarter of lower earnings growth.

You wouldn’t think this scenario would lend itself to a strong upside in stocks, but there just might be a silver lining to the new normal, especially for one sector of the economy.

Pricing power seems to be in a goldilocks scenario for consumer staples retailers. Consumer prices have increased just 1% over the past year, while wage growth has started to show signs of life. This should give companies the ability to raise prices, especially for necessary items like food and household goods. 

At the same time, prices for many of the raw materials used by consumer staples remain at multi-year lows. Benchmark prices for wheat in Chicago trading have fallen 25% over the past year on a growing global supply, which could mean that prices will stay low for years to come. Low prices in commodities from grains to energy could mean lower input costs for packaged food processors and stronger profitability after retail price increases.

Finally, the Brexit vote looks to have extended the environment of exceptionally low financing costs with bond rates touching historic lows. Yield-hungry investors have piled into high-yield and lower-rated companies, pushing the cost of leverage lower. 

The Economic Sweet Spot Plus Catalysts For Growth
Not only does ConAgra Foods (NYSE: CAG) find itself in this economic sweet spot, but several catalysts exist that could send its shares higher.

The company is one of the nation’s largest food processors, selling directly to consumers and to food service, and it has plans to split its consumer foods and commercial foods segments into two companies before the end of 2016, in a move that could help improve focus on strengths within each. The proposal has already brought strategic buyers out to negotiate deals, including Post Holdings’ (NYSE: POST) interest in ConAgra’s Lamb Weston business.

ConAgra completed the sale of its private label business to TreeHouse Foods in February for $2.7 billion, which it plans on using primarily for debt reduction. ConAgra is one of the more leveraged companies among food processors, with 60% of its capital structure from debt. The company holds a debt rating of BBB-, the first rating within the investment grade group. 

ConAgra should benefit from strong investor demand for higher-yield bonds and any reduction in its debt burden could lead to a ratings upgrade, further lowering financing costs and improving overall fundamentals.

On the earnings front, the company books less than 10% of its sales outside the United States. It’s something ConAgra is looking to change, but could be a benefit in the current strong-dollar environment. Many of the largest companies in the industry carry significantly more foreign currency exposure which will weigh on earnings, especially on recent dollar strength due to the Brexit vote.

Shares trade for 19.7 times forward earnings, a discount of 15% on the average forward earnings multiple of 23.1 for the U.S. packaged food industry. ConAgra shares could jump to $56 each over the next year just on the industry multiple and expected earnings of $2.41 per share. That would mean a total return over 18% including the dividend with improving fundamentals and catalysts taking the shares even higher.

Risks To Consider: Execution risks around the company’s planned split could weigh on investor sentiment if management fails to transition smoothly.

Action To Take: Benefit from an economic sweet spot and several catalysts to the upside in shares of ConAgra Foods ahead of its planned split.

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