Premiumization And Automation Will Support Long-Term Pork Demand And Margin Expansion

Catalysts

About Smithfield Foods

Smithfield Foods is a vertically integrated protein company focused on producing, processing and marketing pork based packaged meats and fresh pork products for retail, foodservice, pet food and bioscience customers.

What are the underlying business or industry changes driving this perspective?

• Premiumization within core categories such as packaged lunch meat, dry sausage and value added case ready items is shifting mix toward higher margin everyday products and supporting sustained revenue growth and structurally higher net margins.
• Rising consumer preference for convenient, flavorful at home meals, reinforced by successful innovation like sweet heat bacon and global flavored barbecue, is expanding branded volume and pricing power. This is driving top line growth and earnings resilience.
• Ongoing portfolio optimization in Hog Production, including exiting high cost farms and improving genetics, feed conversion and herd health, is lowering unit raising costs and dampening commodity volatility, which should support more stable consolidated margins and earnings.
• Increased investment in automation, logistics optimization and SG&A discipline across plants and the supply chain is structurally reducing the manufacturing cost base. This is creating operating leverage that can expand operating margins as volumes grow.
• Growing demand for pork as a cost effective alternative to elevated beef prices, combined with Smithfield's strong private label and branded positions across multiple price tiers, is expected to capture share across retail and foodservice and support sustained revenue growth and cash generation.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Smithfield Foods's revenue will grow by 1.6% annually over the next 3 years.
• Analysts assume that profit margins will increase from 5.7% today to 6.2% in 3 years time.
• Analysts expect earnings to reach $990.4 million (and earnings per share of $2.53) by about December 2028, up from $869.0 million today.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 14.3x on those 2028 earnings, up from 10.2x today. This future PE is lower than the current PE for the US Food industry at 20.2x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.96%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Sustained elevated pork cutout prices and beef costs, combined with already high retail pricing, could trigger demand elasticity that management is currently not seeing. This could lead to weaker volume than expected in Packaged Meats and limit future revenue growth and operating margin expansion.
• The strategy of prioritizing high margin, value added products over commoditized items in a cautious consumer environment may face pushback if lower income shoppers trade down more aggressively or rely on fewer SNAP benefits. This could erode branded share gains and pressure revenue and net margins.
• Longer lasting hog disease pressures or tighter hog supply than management anticipates could keep hog prices and belly markets structurally high. This could compress Fresh Pork industry spreads beyond current expectations and drive volatility and downside risk to consolidated earnings.
• The ongoing reduction of company raised hogs to about 30% of processing needs, while intended to cut commodity volatility, may backfire if external supply tightens or third party pricing climbs. This could raise input costs for Fresh Pork and Packaged Meats and reduce operating profit.
• Increased competition and new capacity in bacon and sausage, combined with sporadic aggressive discounting by peers, could force Smithfield to increase promotional intensity or cede share. This could undermine its premiumization and pricing strategy and put pressure on both revenue growth and net margins.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of $29.36 for Smithfield Foods based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $33.0, and the most bearish reporting a price target of just $25.0.
  
• In order for you to agree with the analysts, you'd need to believe that by 2028, revenues will be $16.0 billion, earnings will come to $990.4 million, and it would be trading on a PE ratio of 14.3x, assuming you use a discount rate of 7.0%.
  
• Given the current share price of $22.53, the analyst price target of $29.36 is 23.3% higher.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.