Is Dean Foods Company (NYSE:DF) Cheap For A Reason?

Dean Foods Company (NYSE:DF) may be cheap for a reason. The company has been on my radar for a while, and I've been consistently disappointed in its investment thesis. My concerns are mainly around the sustainability of its future growth, the opportunity cost of investing in the stock accounting for the returns I could have gotten in other peers, and its cash-to-debt management. It's crucial to understand if a company has a strong future based on its current operations and financial status.

First, a short introduction to the company is in order. Dean Foods Company, a food and beverage company, processes and distributes milk, and other dairy and dairy case products in the United States. Founded in 1925, it currently operates in United States at a market cap of US$817.23M.

The first thing that struck me was the pessimistic outlook for DF. A consensus of 11 US food products analysts covering the stock indicates that its revenue level is expected to decline by -10.78% by 2021, however, future earnings are expected to grow. On average, DF's bottom-line should see an annual growth rate of 12.98% over the next couple of years, leading to an unsustainable margin expansion driven by a mix of falling sales from core activities and possibly cost-cutting. Furthermore, at its existing earnings level, DF lags its industry peers in terms of returns to shareholders (7.23% vs. 11.77%), which concerns me. If a company were going through a reinvestment period, it may produce lower returns during that time period, and gains will be factored into the future outlook. Though this is not the case for DF, which makes me wonder about the sustainability of its business.

DF's financial status is a key element to determine whether or not it is a risky investment - a key aspect most investors overlook when they focus too much on growth. Alarm bells rang in my head when I saw DF's debt level exceeds equity on its balance sheet, and its cash from its core activities is only enough to cover a mere 15.86% of this large debt amount. Furthermore, its EBIT was not able to sufficiently cover its interest payment, with a cover of 2.4x. This induces further concerns around the sustainability of the business going forward. DF has high near term liquidity, with short term assets (cash and other liquid assets) amply covering upcoming one-year liabilities. DF has managed its cash well at a current level of US$16.51M. However, more than a fifth of its total assets are physical assets and inventory, which means that in the worst case scenario, such as a downturn or bankruptcy, a significant portion of assets will be hard to liquidate and redistribute back to investors.

DF currently trades at US$8.95 per share. With 91.31 million shares, that's a US$817.23M market cap - quite low for a business that has an upcoming 2018 free cash flow figure of US$91.77M. Even with an expected negative FCF growth rate of -4.77% (source: analyst consensus), the target price for DF of US$15.62 is still above its share price. This indicates that the stock is currently priced at a large discount. Although, comparing DF's current share price to its peers based on its industry and earnings level, it's trading at a fair value, with a PE ratio of 17.16x vs. the industry average of 18.22x.

DF is a fast-fail research for me. Good companies should have good financials to match, which isn't the case here. Given investors have limited time to analyze a universe of stocks, DF doesn't make the cut for a deeper dive. For all the charts illustrating this analysis, take a look at the Simply Wall St platform, which is where I've taken my data from.

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Simply Wall St analyst Simply Wall St and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.