EUR 850.00 For Business Accounts Only

Morningstar | Keep Calm and Rationalize On; Sell-Off Provides Opportunity in Shares of No-Moat Hain

Hain Celestial's third-quarter results came in largely as we expected. Revenue declined 5% as the firm pared unprofitable stock-keeping units, while the operating margin of 6.5% increased from 3.7% and 5.1% in the first and second quarters, respectively, on track to reach our annual 5.4% estimate. The margin is lower than the 8.9% reported in the same quarter last year due to stranded overhead, but these costs are being addressed by restructuring efforts.

We attribute the mid-single-digit drop in shares after the earnings release to management slightly lowering its 2019 revenue forecast, now to the low end of the previously stated range of $2.32 billion-$2.35 billion, in line with our $2.32 billion estimate. We believe the reaction is short-sighted as the lower revenue is the result of an accelerated reduction in unprofitable SKUs, which will enhance margins and the long-term health of the business. Management did not alter its profit forecast, remaining committed to earnings per share of $0.60-$0.70, in line with our $0.66 outlook.

We are seeing signposts indicating that the rationalization strategy is on track. Not only is there sequential margin progression, but revenue growth improved when stripping out impacts of SKU rationalization. Hain is focusing resources on its 11 brands that represent 50% of revenue and 90% of profits, the Get Bigger brands. Growth in these brands accelerated to 8% in the quarter from 6% last quarter. Importantly, for the remainder of the portfolio, coined Get Better, volume excluding SKU rationalizations grew 1%, the first growth reported in eight quarters.

We appreciate that aggressive restructurings are disruptive and nonlinear, and the shares may be volatile as the turnaround unfolds. But we expect to hold firm to our $26.50 fair value estimate, which represents about 20% upside.

We are encouraged by the steps management is taking to build capabilities in research and development, marketing, and operations in order to execute its long-term strategy. In the past month, Hain hired new executives to spearhead its R&D and supply chain operations, both with impressive records in their respective fields. This makes six executives added to the team since CEO Mark Schiller’s appointment last year. While this is a significant amount of change, many of these leaders have worked with Schiller previously, which we think should help ease the transitions.

We are also encouraged to see the firm beginning to sell nonstrategic businesses in order to simplify operations and focus on the most compelling opportunities. This week it announced the sale of the WestSoy tofu business (terms undisclosed) and the Hain Pure Protein business for $80 million. While the latter fetched a lower price than we anticipated, we agree that selling this complex, volatile business is strategically sound. Proceeds of these sales will be used to fund the turnaround and gradually reduce debt.