Campbell Soup Stock Benefits From Multiple Expansion (NYSE:CPB)

I rated Campbell Soup (NYSE:CPB) a buy on December 6, 2021, when it was trading at $41.19. It turned out to be a very profitable trade, especially compared to the return from the S&P. Campbell Soup, which has returned 26% [total return]. The S&P 500 (VOO) has lost 12%, and the Vanguard Consumer Staples ETF (VDC) has returned just 3% since my article was published. An investor who owns shares at or below $41 should continue holding them. Although, I would consider taking some money off the table if gains are above 50%. There may not be much upside to the stock from its current price of $50.69. The stock is fully valued now, trading at GAAP forward PE of 19x. The company owns many iconic brands, but long-term sales growth is limited, and the company faces stiff competition from private label brands. The company has shown sales growth via price increases in recent quarters, but volume has declined. The lack of volume growth may be a negative sign for the company long term. Investors need to watch volume growth in the coming quarters.

Lack of Long-term Revenue Growth

Campbell saw revenue growth of 9% in Q3 FY 2022 compared to the same quarter in FY 2021. In Q2 FY 2022, the company saw a negative 2% organic sales growth. Between Q1 2019 and Q3 2022, the sales growth averaged about 2%. This average includes Campbell’s high growth rates during the pandemic in the second half of 2020 and the first half of 2021 [Exhibit 1].

Exhibit 1: Campbell Soup’s Y/Y Quarterly Revenue [2019-2022]

Revenue growth may soon moderate to low-to-mid single-digits. In Q3 FY 2022, price increases and sales allowances accounted for an 11% increase in net sales, while volume declined by 3%. The company blamed the decline in volume on labor and material shortages and price elasticities. The labor and material shortage may ease in the year’s second half, and we have already seen many commodities pull back from their highs. The price increases may take away market share from Campbell Soup in the coming quarters as private labels gain more share. Mark Clouse [CEO] mentioned that the company saw continued pressure from private label brands. The company needs to show volume growth since it cannot depend on price increases in the future. At some point, the customer will start trading down to cheaper brands, and Mark Clouse noted that some customers might already be trading down.

Investors Find Protection in Consumer Staples

In this age of high inflation and interest rates, investors have shunned high multiple stocks and have taken refuge in the consumer staples sector. Most of these high-multiple stocks are found in the software and technology sector. The Vanguard Information Technology ETF (VGT) had a negative return of 14%, and the popular Invesco QQQ ETF (QQQ), with the top-100 non-financial companies [mostly technology companies] on the NASDAQ exchange, had a negative return of 17% over the past year. The Vanguard Consumer Staples ETF (VDC) had a positive price return of 3.5% in the same period.

Investors should expect the consumer staples sector to outperform the technology sector on a relative basis for the rest of the year. The consumer staples sector may not gain much, but the technology sector may lose more ground, especially if interest rates continue rising. Major indexes [Dow Jones, S&P 500, and NASDAQ] tumbled over 3% on Friday, August 26, after Federal Reserve [Fed] Chairman Jerome Powell signaled his hawkish stand against inflation during his speech from Jackson Hole, WY. The Fed intends to continue raising interest rates to stem inflation. The relative strength of the consumer staples sector was visible on Friday, with the Vanguard Consumer Staples ETF losing just 2.4%, compared to a loss of 3.4% for the Vanguard S&P 500 ETF. The Invesco QQQ ETF [NASDAQ’s Top 100 stocks] lost 4.1%. Campbell Soup lost just 0.98% on that day.

Debt, Dividends, and Share Buybacks

The company carried a total debt of $4.7 billion at the end of Q3 FY 2022 [May 1, 2022]. Its debt to EBITDA ratio stands at 2.7x. The company is making slow but steady progress in reducing its debt, and it would be better for its future if it could get its debt to EBITDA ratio to 2x or below. The management had total debt of $9.5 billion in FY 2018.

The company has spent $1.7 billion in share buybacks since 2012. The buybacks have taken the share count from 317 million to 300.57 million at the end of Q3 2022. That amounts to a 5.1% reduction in the share count over the past decade. It is not a substantial share reduction, given the money spent on buybacks. The reduced share count by 16 million came at a steep average price of $103 per share. This high price is due to the company issuing millions of shares to its management, thus diluting the effect of the share buybacks. Campbell Soup’s share buyback program reduces the impact of share-based compensation given to senior management.

For example, during the nine months ending on May 1, 2022, the company repurchased 2.7 million shares for $116 million. The average cost per share works out to be $42.96. But as of May 1, 2022, about 1.17 million shares have vested as part of the executive compensation program. An additional 1.98 million shares are nonvested as of May 1, 2022. The company repurchased 1.53 million shares [not 2.7 million] when accounting for the 1.17 million vested shares.

The company spends about $430 million on total dividends, and the current yield is 2.92%, with a dividend payout ratio of 47%. The 10-year U.S. Treasury bond [risk-free] yields over 3%, so it may be best to wait for Campbell’s dividend yield to surpass 3%. The dividend is not at risk, given the operating cash flows for the company. The company had an operating cash flow of $1.03 billion in 2021 and an average annual operating cash flow of $1.2 billion between 2012 and 2021.

Campbell Soup’s Financial Performance, Monthly Returns, and Beta

One of the most remarkable things about Campbell Soup is its low beta [the risk that the stock adds to a portfolio]. That’s a testament to the strong brands and the steady revenue stream Campbell Soup generates with its products and brands. According to Yahoo Finance, the five-year monthly beta is 0.36. A linear regression of the monthly returns of Campbell Soup and Vanguard S&P 500 ETF (VOO) from June 2019 to July 2022 resulted in a beta of 0.21 [based on data from IEX Cloud and the author’s analysis using R]. There is a low positive correlation between 0.24 between the two monthly returns over the same period. Low beta helps the company dramatically lower its weighted average capital cost [WACC]. The company’s WACC is around 5% [author calculation] based on the 10-year risk-free rate of 3.04% [10-year treasury] and a beta of 0.36. Campbell Soup is an outstanding stock to own when you wish to reduce risk in your portfolio.

The company has generated an average monthly return of 0.93%, and 75% of the time [third quartile], the monthly return was below 3.05%. Campbell Soup has an excellent return on equity of 29% and a good return on invested capital of 11.5%.

Conclusion

Campbell Soup and the consumer staples sector have enjoyed multiple expansions in the past year. The company would significantly add to any portfolio to provide stability and reduce risk. But, the company is currently fully valued, given that it is trading at a forward EV to EBITDA multiple of 12.2x compared to its five-year average of 11.4x. But do not expect a pullback in the stock price soon. The market turmoil caused by inflation and the subsequent interest rate increases has pushed investors to seek the safety of consumer staples. Campbell Soup will likely stay at current price levels well into next year. Campbell Soup would be a buy when the PE drops to 15x.