Addressing feedback (LW)
We received feedback questioning why we included a potato price chart yesterday in reference to Lamb Weston. We know of no better tool to indicate the market forces of supply and demand than price. We omitted that Lamb Weston does not sell potatoes but processed potato products – French fries. Potatoes are a cost to Lamb Weston, but the company is almost entirely contracted with farmers for its supply needs. Lower potato prices would indicate lower future costs, not necessarily revenue. The company does have to go into the spot market at times if not enough supply had been contracted like this year when it reduced acres by 20-25%, undershooting demand.
On the last conference call, management was upfront about the difficult seasonal challenges they saw ahead for the foodservice channel with the colder weather making outdoor dining more difficult. Many thought management was too pessimistic when pointing that out, even though that is what has occurred. Restaurants and restaurant distributors have recently reported weakening trends with the colder temperatures. It was pointed out to us that restaurant industry sales and not potato prices would have been a more appropriate chart to provide a reference point for Lamb Weston’s revenue trends. In our restaurant insights notes, we publish restaurant sales trends weekly. We had not published a chart of potato prices previously, which presents a different view of market conditions (not pricing). There are several potato varieties, differences based on location, and contracted crop prices are not reflected in spot prices – aspects of nearly every agricultural commodity and oil that we are familiar with.
Lamb Weston reports FQ2 results on January 7th. We believe the market has discounted the near-term challenges in the foodservice channel, as seen in the restaurants' recent share price performance and their distributors despite worsening trends. The risk of a competitive pricing environment eroding margins is lower than the market appears to be assigned based on the LW share price. We expect that Q2 results will confirm a steady and disciplined pricing environment.
Lamb Weston is at the top of our Long Bias list. We are constructive on the shares as foodservice sales improve in 2021.
BUD monetizes cans
Anheuser-Busch InBev announced that it is selling a 49.9% stake in its U.S. based metal container plants for $3B to Apollo and a group of institutional investors. AB InBev will retain operational control and flexibility. Cans are in short supply during the pandemic. The shift to off-premise consumption requiring either can or bottle packaging instead of kegs, the growth of hard seltzer, and the perceived environmentally friendly aspect of aluminum recycling had created a demand surge in 2020, as seen in the following chart courtesy of Hedgeye Industrials analyst Jay Van Sciver.
AB InBev sold its Australian subsidiary Carlton & United Breweries in June for $11.3B. The company has more assets; it can similarly monetize to achieve the targeted leverage of 2x from 4.9x. Getting below 4x levered will likely be rewarded by investors with a higher multiple. BUD is on our Long Bias list.
Limited relief for restaurants in the stimulus bill (SYY)
The status of the coronavirus-relief package and any possible modifications are uncertain after President Trump’s criticism. The $900B aid bill does not include any targeted aid for the hospitality industry despite losing millions of jobs. In comparison, the airline industry would receive $16B in assistance, and movie theaters and concert venues would receive $15B in grant money. The Paycheck Protection Program would offer more preferential loan terms to the hospitality industry. The new rules favor smaller businesses for forgivable loans and provide a larger borrowing amount for bars and restaurants while also making public companies ineligible. Only 8% of the previous PPP funds went towards restaurants, mostly because it required at least 60% of the proceeds to be spent on payroll. Many restaurants survived the pandemic by operating take-out or outdoor dining on reduced staffing levels, not full staffing. One new provision for restaurants is the insertion of the three-martini lunch – a full tax deduction of the value of business meals (instead of 50%), which should boost urban restaurants catering to the business crowd when office workers return to work.
Independent restaurants continue to be challenged by the pandemic and restrictions on dining. The competitive environment is bound to have fewer restaurants when the recovery begins.
