Dividend Aristocrats In Focus: McCormick & Company - Sure Dividend

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Dividend Aristocrats In Focus: McCormick & Company


Updated on March 24th, 2021 by Bob Ciura

In order to become a Dividend Aristocrat, a company must have a strong brand and a dominant industry position. The Dividend Aristocrats are a group of 65 companies in the S&P 500 Index, with 25+ consecutive years of dividend increases.

You can download an Excel spreadsheet with the full list of Dividend Aristocrats by using the link below:

 

A perfect example of a Dividend Aristocrat with an industry-leading brand, is consumer products company McCormick & Company (MKC). McCormick has paid dividends each year since 1925, and has increased its dividend for 35 years in a row.

Its dividend growth streak is due to its high-quality business. McCormick is the global leader in food spices, seasonings, and flavors. It has grown its leadership position organically and also through acquisitions. This has fueled McCormick’s dividend growth for many years, and will continue to do so in the years to come.

Business Overview

McCormick was formed in 1889, when founder Willoughby M. McCormick started making flavors and extracts in his cellar, which he then sold door-to-door. At first, the business grew at a gradual pace. In 1896, McCormick entered spices by issuing its first McCormick’s Cookbook. Over time, the company has steadily built itself into the leading spices and seasonings company in the world.

McCormick & Company produces, markets and distributes seasoning mixes, spices, condiments and other products to customers in the food industry. Major brands include McCormick, Lawrys, Stubb’s, Club House, Ducros, Schwartz, Kamis, Kohinoor, Zatarains, Thai Kitchen, and Simply Asia.

It has a market capitalization of $23 billion, which makes it a large-cap stock. McCormick released fourth quarter and full year earnings results on 1/28/21. For the quarter, revenue grew 4.9% to $1.56 billion, coming in just above estimates. Adjusted earnings-per-share fell 1.9% to $0.79 for the quarter.

The company’s core consumer segment led the way in the fourth quarter.

Source: Investor Presentation

For the year, revenue grew 5% to $5.6 billion and adjusted earnings-per-share increased 6% to $2.83. Consumer sales grew 5.9% overall due to a 3.7% improvement in volume and mix, 1% contribution from pricing and favorable currency exchange of 1.2%.

U.S. sales were up 5.5%, mostly due to volume and mix. This region saw increased demand throughout its portfolio, including strength in Frank’s RedHot, French’s Mustard, Simply Asia and Zatarain’s. E-commerce sales were higher by 136%.

McCormick has guided towards adjusted earnings-per-share of $2.91 to $2.96 for fiscal 2021, which would be ~4% growth at the midpoint of guidance.

Growth Prospects

Going forward, there is plenty of room for continued growth for McCormick, due to growth in the emerging markets, and also acquisitions. First, international growth is a strong catalyst for McCormick. In the 2020 fourth quarter, Europe/Middle East/Africa was the best-performing geographic segment for the company, with 5.2% constant currency sales growth.

Higher demand for herbs and spices, as well as increased prices also contributed to sales growth in the region. Separately, acquisitions are a major part of McCormick’s growth strategy.

In 2018, McCormick acquired Frank’s RedHot and French’s as part of a $4.2 billion purchase of RB Foods, the food division of consumer products giant Reckitt Benckiser (RGBLY). This was the largest deal in McCormick’s history, and is already a driver of growth for the company.

McCormick has utilized its leadership position in industry to quickly expand these top brands globally. Frank’s RedHot is the leading hot sauce brand in the U.S., while French’s leads the mustard category. The common theme within McCormick’s M&A strategy is that it seeks out top brands that lead their respective categories, that can be easily scaled up.

This theme is clear once again with the recent acquisitions of Cholula Hot Sauce and FONA International. First, in November 2020 McCormick acquired Cholula, the premium Mexican hot sauce brand, for $800 million. This acquisition fits perfectly into McCormick’s strategy of acquiring top-quality brands and quickly scaling them.

Source: Investor Presentation

McCormick followed this up with the December 2020 acquisition of FONA International, a leading manufacturer of clean and natural flavors with customers across the food, beverage, and nutritional markets. McCormick acquired FONA International for $710 million in cash.

We expect that the company’s various acquisitions, combined with its own strong brands, will result in strong earnings-per-share growth going forward. We estimate that McCormick can grow earnings at a rate of 8% per year through fiscal 2026.

Competitive Advantages & Recession Performance

The two most important competitive advantages for McCormick are its brand strength and global scale. McCormick is the top brand in the global spices and seasonings industry, which is expected to grow for the next five years.

As a result, this gives McCormick leverage with retailers, and pricing power. These qualities help the company generate consistent profits each year, even when the economy enters recession.

McCormick managed to grow earnings-per-share each year during the last recession. Earnings-per-share during the Great Recession are below:

As you can see, McCormick & Company grew earnings-per-share every year through the Great Recession. Not only that, the company averaged double-digit annual growth each year, which was highly impressive and a very rare accomplishment, even for a Dividend Aristocrat.

Valuation & Expected Returns

At the midpoint of full-year guidance, McCormick expects adjusted earnings-per-share of roughly $2.94 this year. As a result, the stock trades for at a price-to-earnings ratio of 29.6. This is above our fair value price-to-earnings ratio of ~21.

McCormick’s valuation multiple has expanded considerably in recent years, as the company has turned in strong earnings growth. Still, the stock appears to be significantly overvalued. If the stock reverted to our target P/E by 2026, then valuation would be a -6.6% headwind to annual returns over this time period.

Fortunately, shareholder returns will be derived from expected earnings growth and dividends. If the economy stays out of recession, the company should easily manage at least 8% earnings growth going forward. The company’s strong brand and multiple catalysts for future growth should add up to higher growth as well.

A potential breakdown of expected returns is below:

In all, we feel investors can expect total annual returns of just 3% through 2026. The high valuation is putting a lid on our expected total return. Since we have such a low expected rate of return for McCormick, we currently rate the stock a sell.

That said, McCormick is a high-growth dividend stock. The company has increased its dividend by ~9% per year over the past 10 years. It recently increased its quarterly dividend by ~10% in November 2020, even with the coronavirus pandemic weighing heavily on the U.S. economy.

McCormick has a healthy dividend payout ratio of 46%, based on expected fiscal 2021 adjusted earnings-per-share. This means McCormick should continue its annual dividend increases for many years to come.

Final Thoughts

McCormick dominates the spices and seasonings category. Its strong brands provide the company with high profit margins and growth opportunities, both in the U.S. and the international markets.

Income investors may be turned off by McCormick’s 1.5% dividend yield. However, McCormick has a very strong dividend growth history. It should be able to lift the dividend each year, at a high single digit annual rate.

That being said, the stock is not a buy right now. It has a premium valuation multiple, and while it could be argued that a high-quality company such as McCormick deserves a higher stock valuation, we have a low expected rate of return.

That said, we would be buyers of McCormick on a meaningful pullback in the share price, which would result in a lower valuation and a higher dividend yield.

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