Since early June, two of Canada’s premier seafood processing companies have suffered from downward stock price momentum. High Liner Foods suffered through an expensive product recall. Clearwater Seafoods may have been just side-swiped by the HLF recall, but it also suffered from a federal government fisheries management decision regarding northern shrimp giving more quota to the smaller inshore fleet.
Since early June, Lunenburg, Nova Scotia-based High Liner Foods’ (TSX—HLF) shares have plummeted. This gives the shares downward stock price momentum.
HLF’s price drop reflects a 19 per cent fall in its expected fiscal 2019 earnings, to C$1.41 a share (fiscal years end January 31). That was due to a product recall. On the positive side, the company’s earnings are expected to partly recover next year, and the generous and growing dividends look safe. Former chief executive officer Henry Demone will head the company again. HLF did well when he was at the helm. The shares remain a buy for growing dividends that now yield four per cent, while you wait for a share price recovery.
HLF “is the leading North American processor and marketer of value-added frozen seafood . . . throughout the United States, Canada and Mexico. . . .The Company also sells branded products to restaurants and institutions . . . and is the major supplier of private label value-added seafood products to North American food retailers and food-service distributors.” One quarter of HLF’s first-half sales of $508 million are in Canada (all figures in US dollars unless preceded by a C). Three quarters are in the US.
In the 26 weeks to Canada Day, HLF earned an adjusted $16.9 million, or 53 cents a share. This was down by 32 per cent from adjusted earnings of $24.4 million, or 78 cents a share, one year earlier.
HLF’s lower earnings reflected a product recall in the first half. These products contained milk not listed in the ingredient label. The recall cost the company $9.3 million directly. It states: “These estimated losses do not include any estimate of the reduction in earnings associated with the product recall as a result of lost sales opportunities due to limited product availability and customer shortages, or increased production costs related to the interruption of production at the Company’s facilities.”
One plus is that the recall occurred due to an error by an ingredient supplier. HLF “expects to recover substantially all of the estimated losses associated with the recall from the ingredient supplier.” This will offset its direct losses.
Mr. Demone has returned as chairman and chief executive officer of HLF. That’s good because he successfully spearheaded its former growth. Mr. Demone said: “As expected, year-over-year sales volume improved in the second quarter, bolstered further by the acquisition of Rubicon [Resources] on May 30, 2017, however the impact of a product recall served to offset a portion of the improvement and contributed to inefficiencies in our manufacturing facilities. Recovery from the product recall and improvements in plant performance are expected to return us to year-over-year earnings growth in the back-half of this year.” He’s optimistic about HLF’s outlook.
The earnings growth is expected to carry over into next year. HLF’s earnings are expected to rise by 12.8 per cent, to C$1.59 a share. While this is still less than last year’s earnings, at least they’re going in the right direction. Based on this estimate, the shares trade at an appealing, low price-to-earnings ratio of 8.8 times.
HLF’s net debt-to-cash-flow ratio is 10.2 times. This is far above our usual comfort zone of two times or less. Just remember that the company paid US$101 million to acquire Rubicon Resources. HLF reduced the risk by issuing 2,429,014 of its shares, for US$25.8 million.
Rubicon mostly imports and distributes “sustainably-sourced” frozen-shrimp products in the private-label, US retail market. HLF “believes this acquisition will provide a strong platform for growth in this key species”. It also cements HLF’s position in the private-label industry.
Rubicon’s sales were $17.7 million from May 30 to July 1. In 2016, its sales totaled $234 million. This will add to HLF’s revenue. Partly offsetting this, HLF sold its New Bedford scallop business on September 7.
The consensus recommendation of four analysts is ‘Strong Buy’. We rate HLF a ‘Buy’.
Clearwater Seafoods also tumbled
Since early September, shares of Bedford, Nova Scotia-based Clearwater Seafoods (TSX—CLR) have plunged by 22.7 per cent. This fall also gives CLR downward stock price momentum.
However, CLR is expected to record higher earnings this year and next, and its dividend yields a decent 2.2 per cent. The dividends have risen each year since the company began paying them in 2013. It remains a buy for a share price recovery and decent dividends.
CLR “is one of North America’s largest vertically integrated seafood companies and the largest holder of shellfish licences and quotas in Canada. It is recognized globally for its superior quality, food safety, diversity of species and reliable worldwide delivery of premium wild, eco-certified seafood.” The facts support this.
In the 26 weeks to Canada Day, CLR’s sales jumped by 11.3 per cent, to a record $283 million. Geographically, it generated 36.9 per cent of its sales in Europe—mainly France, Scandinavia and Britain. Asia, mostly China and Japan, accounted for 33.6 per cent of sales. Sales in Canada and the US totaled 28.5 per cent. It generated only 0.1 per cent of its sales in the rest of the world combined.
CLR does indeed offer a ‘diversity of species’. In the first half, it sold scallops (36.1 per cent of sales), lobster (17.7 per cent), clams (17.2 per cent), cold-water shrimp (10.6 per cent), langoustine (6.2 per cent), whelks (5.7 per cent), crab (5.5 per cent), ground-fish and other (1.1 per cent). But record sales failed to turn into record earnings.
In the first half, CLR earned adjusted EBITDA of $47.3 million, or 74 cents a share. This was down by 3.9 per cent from adjusted EBITDA of $46.3 million, or 77 cents a share, a year earlier. (EBITDA, or earnings before interest, taxes, depreciation and amortization, assesses a company’s underlying earnings.) Just remember that the seasonally strong, second half matters much more than the seasonally weak first half.
Chief executive officer Ian Smith said: “We anticipate solid results in the second half of 2017. Margins are expected to increase with favourable changes in sales mix, higher selling prices for select species, increasing sea scallop TAC [Total Allowable Catches] and shrimp volumes as well as the benefits associated with CETA implementation late in the third quarter of 2018. [CETA is the Comprehensive Economic and Trade Agreement between Canada and the European Union.] As we move into our peak selling period, we also expect continued double-digit growth in clam sales with improving margins and significant reduction in our clam inventory.” CLR’s largest market is Europe, so it should profit from CETA throughout 2018.
The long-term outlook for CLR is solid. That’s because global demand for seafood is exceeding supply. There are several reasons for this.
As emerging nations such as China get wealthier, they’re going to consume more seafoods that are regarded as delicacies. In developed nations, many see seafood as a healthier alternative to, say, red meats such as beef. Then, too, the world’s population continues to grow. CLR writes “this supply-demand imbalance has created a marketplace in which purchasers of seafood are increasingly willing to pay a premium to suppliers” such as the company.
In 2017, CLR expects its earnings to rise by 4.9 per cent. Based on this estimate the shares trade at a price-to-earnings ratio of 14.2 times.
The consensus recommendation of two analysts is ‘Buy’. We agree. CLR remains a ‘Buy’ for a share price recovery and decent, growing, dividends.
This is an edited version of an article that was originally published for subscribers in the October 2017/Second Report of The MoneyLetter. You can profit from the award-winning advice subscribers receive regularly in The MoneyLetter.
The MoneyLetter, MPL Communications Inc.
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