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Morningstar | Turnaround Strategy Should Unlock Value for No-Moat Hain; Shares Attractive

We see value in shares of no-moat Hain, which are trading about 20% below our $26.50 fair value estimate. Shares have come under pressure over the past year as the company’s brands have failed to gain traction, the result of the company overexpanding its reach (across categories, brands, and channels), which has spread resources too thin. Hain’s underinvestment in research and development (0.4% of revenue versus 1.0% for peers) and marketing (1.0% versus 4.5% for peers) has left the firm with a portfolio of brands that lack innovative differentiation and consumer awareness, thus our no-moat rating. However, we believe the firm’s new turnaround strategy is on target and should help unlock value.

Hain plans to focus its resources on 11 of its 50 brands that are experiencing high growth and attractive margins. These brands currently represent 50% of revenue and 90% of profits and have many opportunities for growth, as they are not widely distributed, and can replace the shelf space of the 14% of Hain’s products being discontinued due to unprofitability. Furthermore, Hain is tackling operational complexity, which should lower costs and boost gross margins from last year’s 22.1% to 28% over the long term. These savings will be reinvested in R&D and marketing, which we believe will help Hain develop differentiated products that resonate with consumers and should improve consumer brand awareness, ultimately enabling the firm to maintain share. We expect operating margins to improve from last year’s 7.6% to 13% long term. While we acknowledge that line discontinuations will result in near-term revenue headwinds, we recently increased our long-term revenue expectations to 4.3% from 3.6% to reflect the benefits from this enhanced focus and investment, which we think investors currently fail to appreciate.

Outside of the firm’s 11 focus brands, Hain’s remaining portfolio will either be restructured to maximize profitability or divested. We expect the proceeds will be used to reduce debt from the current 2.6 times; however, because of the unknown timing and size of these divestitures, we have not included them in our forecast. Proceeds could also be used to bolster Hain’s underlying growth prospects or to repurchase shares. We do not expect the firm to initiate a dividend or acquire additional businesses, at least not until its legacy portfolio has firmed its footing. In the event of a large divestiture, management has indicated it would consider a special dividend.