Strong Brands and Solid Execution Help Narrow-Moat Hormel Withstand Macro Pressures

Associate Equity Analyst

Grace Na

Revenue segments as reported by the company.

Retail

Foodservice

International

Grocery Products

Refrigerated Foods

Jennie-O Turkey Store

International & Other

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We believe Hormel’s narrow moat is secured by a strong brand portfolio with demonstrated pricing power, entrenched retail relationships due to the firm’s number-one and -two positions in several categories, and a position as one of the leading providers of protein to the food-service industry, differentiating itself by servicing these clients with its own salesforce. The long-term transition from a commodity protein producer to a branded consumer product firm has served Hormel well, helping to stabilize prices and demand for its strong brands. 

While intense rivalry is unlikely to abate, Hormel is working to bolster its competitive position. In this context, it has shifted its mix to include more on-trend fare (Applegate natural and organic meats and cheeses, snacking platforms, Hispanic offerings, and labor-saving products for food service, to name a few). As a key part of its strategy to expand into snacking, Hormel acquired Planters from no-moat Kraft Heinz for $3.4 billion in 2021. While Planters had suffered from underinvestment, Hormel is funneling additional resources to enhance innovation and marketing, which we think will help stabilize the brand's market share. Beyond this, efforts to reduce its commodity expsoure (shedding commodity pork revenue and non-value-added turkey sales) are bearing fruit, with Hormel's commodity sales representing less than 10% of the total sales mix (from 10%-15% prior) as of the end of fiscal 2022. We applaud these efforts to enhance profit margins, reduce volatility, and further support its competitive edge as its strong brands become a greater portion of the mix.

We believe Hormel has a significant opportunity to expand internationally, as only 6% of 2022 revenue was from outside the United States. Spam and Skippy both have international appeal and are being launched globally. Also, the acquisition of Ceratti, a Brazil-based producer of deli products, gives Hormel access to the fast-growing Brazilian market. We think Hormel can use this business as a foundation to launch its legacy brands across Latin America. Further, the minority investment in Garudafood gives the firm a foothold in the Indonesian food and beverage space.

Business Strategy & Outlook

We believe Hormel Foods possesses a narrow moat based on a portfolio of strong brands and entrenched relationships with retailers and food-service operators. Although Hormel has its roots in commoditized proteins, it has shifted its business to value-added, differentiated brands and products (both organically and through acquisitions), which have demonstrated pricing power over the long term. Now, less than 10% of the business is commodity meat, primarily pork and turkey, which should continue to fall, given Hormel's plans to further exit this business. Hormel maintains the number-one or -two market position in several categories, making it an important partner to U.S. retailers, a channel that represented 62% of fiscal 2022 revenue. Hormel is also a major player in U.S. food-service (31% of revenue), a profitable and strategically important channel for the company. Hormel has demonstrated an ability to innovate products for this channel, leveraging insights from its retail operations, making it a valued partner to food-service operators. For example, as labor shortages have been a persistent problem for restaurants, Hormel has developed many labor-saving products, which have been very popular, given current worker scarcity. We forecast that the company will generate returns on invested capital (including goodwill) that average 13% over the next 10 years, well above our 7% weighted average cost of capital estimate. 

Hormel’s leading market positions in several categories serve as a foundation for its standing as a valued partner for U.S. retailers, supporting a facet of the firm’s intangible asset-sourced narrow economic moat. As of 2022, Hormel stands as the third-largest provider of chilled processed poultry in the U.S., behind Kraft Heinz and Tyson, per Euromonitor. The growth of this category has benefited from consumers switching from high-fat red meat to leaner poultry, making this an important category for retailers. Hormel also holds the number-one share position in fermented meats such as pepperoni and salami. The company’s innovation has driven consumption of this product beyond the traditional pizza topping market into new usage occasions such as party platters, which has served to boost Hormel's growth rate. Hormel’s Applegate brand holds the top spot in natural and organic deli meat and cheese, an important subsegment of the deli category, as it enjoys an attractive growth rate. It is an area that is winning with consumers, elevating the standing of firms that play in this space with their retail partners. Hormel also boasts the number-one U.S. market share in shelf-stable meats with Spam’s 52% value share of the category in 2022 according to Euromonitor. The brand is popular with Asian Americans (consumption index of 454, meaning they consume 354% more than the average consumer) and also with Hispanic Americans (144), two of the fastest-growing demographics, and it has also been one of the international segment’s growth drivers as the company has expanded the brand’s global reach. Hormel holds the number-one and -three spots in shelf-stable ready meals, with the namesake brand's 22% share and Dinty Moore's 8% slice, per Euromonitor. Hormel holds the number-two spot in many other important categories, such as bacon, peanut butter, and chilled ready meals, which beefs up the consumer insights it is able to amass and share with its retail partners. 

Many of these categories are on trend as consumers seek to increase their consumption of proteins, fresh foods, and on-the-go snacks and meals, making them important for retailers. The company aims to maintain its stronghold in these categories by focusing its innovation and acquisition activity on areas that capture these trends. For example, the company has its roots in animal proteins but expanded to other types of proteins with acquisitions of Skippy peanut butter, Justin’s nut butters, and Planters. The company’s positioning in the deli space was enhanced by the acquisition of Columbus, a premium deli company that complements its offerings in that department. Finally, the company has captured the on-the-go trend with several brands. One example is on-the-go products for Skippy (P.B. Bites, P.B. & Jelly Minis), which helped the brand increase points of distribution by 30% from 2013 to 2018, an impressive feat given that Skippy had previously been owned by wide-moat Unilever and likely benefited from its own retail relationships. We share Hormel’s sentiment that innovation is important, and we think the company's demonstrated aptitude in this realm should help ward off potential competitive threats while maintaining its position with retailers and end consumers. Hormel’s advertising spending as a percentage of branded retail sales stood at 2.5% before the pandemic (2.2% in 2022), a level we expect to persist over the long term. While this is below the packaged food average of 4.3%, we believe these investments have been highly productive, with Hormel appropriately shifting its advertising budget to digital media, where consumers are spending more time. 

Hormel is one of three major players in food-service protein, along with Tyson and Smithfield Foods. However, Hormel is the only protein producer that sells primarily through its own dedicated salesforce, as Tyson and Smithfield rely heavily on brokers. Hormel believes this provides a few distinct advantages, which seem reasonable to us. First, as Hormel employees spend much of their time in their clients’ establishments, they witness firsthand the challenges their clients face. They regularly share this information with the product development team, which gives the company unique insights to create innovative products to meet these needs. Hormel has a successful record of creating new products to meet the needs of the operators that they service. For example, limited time and labor is a perpetual challenge for food-service customers. Hormel has realized great success with its Bacon 1 brand of precooked bacon, which uses a patent-pending cooking technique to deliver a product that management claims has similar flavor, texture, and appearance while saving labor, mess, and the problem of disposing of large quantities of grease. Not only does this product sell at a substantial premium to raw bacon, it has gained significant share since its 2014 launch. Hormel Fire Braised meats, which offer seared-in flavor in a slow-braised product, has been another very successful lineup. It allows food-service customers to serve slow-braised meats while saving labor hours. This product, launched in 2013, has also continued to report robust growth (excluding pandemic disruption). Another advantage of Hormel’s direct salesforce is that it allows the company to foster stronger relationships with clients and distributors. These partnerships allow Hormel to educate clients on their products (creating a pull) and the distributors as well (creating a push). Hormel attributes these factors as the reason for its market share gains in the food-service industry. Hormel has said that the growth of its food-service business continues to outpace the industry by 2-3 times. Tyson and Smithfield have not articulated any plans to build out their own direct food-service salesforce in the near future (and appear more focused on expanding their international footprint), so we anticipate Hormel will continue to benefit from its unique positioning, enabling it to ensure its products meet the needs of its customer base.

While we expect that Hormel will report an economic profit (ROIC exceeding WACC) in each of the 10 years of our explicit forecast (with ROIC including goodwill ranging from 10% to 14% compared with our 7% WACC estimate), we don’t have confidence that it will generate ROICs in excess of WACC over a 20-year horizon. This lack of conviction primarily stems from the highly competitive nature of the industry and the rapidly evolving landscape regarding the shift to the online channel, which has leveled the playing field to a great extent between established, national branded operators and smaller niche startups.

Narrow

Economic Moat

Hormel Foods

Skippy is a brand of peanut butter manufactured in the USA. First sold in 1932, Skippy is currently manufactured by Hormel Foods, which bought the brand from Unilever in 2013.

Skippy

Applegate is a producer of high-quality natural and organic hot dogs, bacon, sausages, deli meats, cheese and frozen products. Products are made without GMO ingredients and sourc meat from farms.

Applegate

Spam is a brand of canned cooked meat made by Hormel Foods Corporation. It was first introduced in 1937 and gained popularity worldwide after its use during World War II. By 2003, Spam is sold in 41 countries on six continents and trademarked in over 100 countries (except in the Middle East and North Africa). In 2012, the eight billionth can of Spam was sold.

Spam

Hormel Foods Corp. engages in the production of meat and food products. It operates through the following segments: Grocery Products, Refrigerated Foods, Jennie-O Turkey Store, and International and Other. The Grocery Products segment focuses on the processing, marketing, and sale of shelf-stable food products sold in the retail market. The Refrigerated Foods segment is involved in the processing, marketing, and sale of branded and unbranded pork, beef, and poultry products for retail, foodservice, deli, and commercial customers. The Jennie-O Turkey Store segment includes the processing, marketing, and sale of branded and unbranded turkey products for retail, foodservice, and fresh product customers. The International and Other segment manages Hormel Foods International, which manufactures, markets, and sells company products internationally. The company was founded by George A. Hormel in 1891 and is headquartered in Austin, MN.

Earnings data Q2 2023

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