Lamb Weston Gets Fried By Inflation

Lamb Weston Underperforms Its Diversified Brethren

Lamb Weston NYSE: LW is a great example of why diversified consumer staples companies are a much better choice. As good a company as it is, the business is heavily dependent on potatoes and foodservice which were a bad combination during the pandemic. The fiscal Q1 results were disappointing, to say the least, but more importantly, reveal the crushing pressure of inflation and risk in the potato business. While revenue came in short of consensus, the earnings came in far short of the consensus and the guidance for the rest of the year is not favorable. We like the consumer staples sector, and we have liked Lamb Weston, but we think there are much better choices for you today.

“... the impact of extreme summer heat that negatively affected potato crops in the Pacific Northwest, combined with industrywide operational challenges, including highly inflationary input and transportation costs, labor availability, and upstream and downstream supply chain disruptions, will result in higher costs as the year progresses, and significantly pressure our earnings. Accordingly, we expect our gross profit margins to remain below pre-pandemic levels through fiscal 2022,” said Tom Werner, President, and CEO. 

Lamb Weston’s Rebound Falls Flat 

Lamb Weston reported a 12.9% increase in revenue from last year and that would mean something to us if not for several factors including the impact of pricing actions. Pricing actions across all segments helped to boost the revenue and yet it still fell short of the Marketbeat.com consensus by 160 basis points. More to the point, last year's comparison is easy at -11.88% which leaves the 2-year comparison at -0.5%. Other consumer staples companies have reported systemic challenges this quarter as well, but they've also all reported business well above pre-pandemic levels. Lamb Weston says that the rebound in food service more than offset declines in the retail segment but once again at a level below expectations.

Moving down the report, the details only get worse. The company reported an extreme impact on margins related to inflationary pressures, supply chain headwinds, and input costs specifically cooking oil. On the bottom line, the GAAP earnings of $0.20 not only missed the consensus by $0.18 but they are down 67% from last year despite the apparent revenue strength. This is not good news.

As for the guidance, the guidance has a ring of optimism that we do not share. The company is still expecting revenue “above target”, which is low to mid-single digits, but this is versus the consensus estimate of 12.5%. Allowing that 12.5% is above target the guidance is still unclear and does not lead us to believe revenue will grow 12.5% this year. Turning to the EPS, the company says EPS will be “pressured” this year which is a word we do not want to hear.

Lamb Weston Is Highly Valued For A Low Yield

Starting from the position that we like the consumer staples group for dividends and dividend growth, Lamb Weston is on the unattractive end of the spectrum. Not only are revenue and earnings impaired but the stock trades at more than 25X earnings and at the high end of the range while paying one of the lowest dividends. The stock yields about 1.5% and above the broad Market average but you can get 3% or greater at only 14X or 15 x earnings with stocks like Kraft Heinz NASDAQ: KHC and Conagra NYSE: CAG.

The Technical Outlook: Lamb Weston Falls To Support

Shares of Lamb Weston fell more than 10% in the wake of the earnings release but appear to have found support. The caveat is that price action is between two potential support targets and one of them is currently acting as resistance. If the price action can get above $57.50 and close there we would be more sanguine about a potential consolidation at this level but, as it stands, there is a great risk price action will fall farther. The next target for strong support is near the $51.75 level or almost 9% below the current price action. We’ll start getting interested again when the yield-to-value ratio comes back into alignment whatever the price is.