EUR 850.00 For Business Accounts Only

Morningstar | In Spite of the Healthy Eating Trend, We See Upside for Narrow-Moat Hostess Brands. See Updated Analyst Note from 08 Mar 2019

We are modestly increasing our fair value estimate for Hostess Brands to $14.40 from $14.00, as lower expected marketing investments more than offset a slightly lower gross margin assumption. And we think investors should snack on this name.

Since the brand’s 2013 relaunch after a nine-month bankruptcy-induced hiatus, Hostess has rapidly regained market share as the products found their way back onto store shelves. The new company has a strong management team, generates attractive returns, and boasts a cost-effective distribution model that gives the company greater access to convenience, drug, and dollar stores than the brand had pre-bankruptcy. In fact, we believe that Hostess’ newfound dominance in the convenience channel is one of the firm’s competitive advantages, along with strong brand equity, demonstrated by the consistent price premium the brand sells at across its product line. Together, these competitive advantages are the basis for our narrow moat rating.

Although the brand has realized attractive growth since relaunching, as distribution gains have decelerated, so has organic revenue growth and share gains. The growth of the overall sweet baked goods category has decelerated as well and was essentially flat in 2017 and 2018. We expect that the sweet goods category will continue to lose share to fresh, natural fare, which will be a continual headwind for Hostess.

However, in the next few years, as the firm continues to gain distribution and expand into adjacent categories, we expect 3% revenue growth. Earnings should be further bolstered as the company improves the profitability of the acquired breakfast business and realizes lower interest expense due to less debt. In the next five years, we forecast an adjusted earnings per share CAGR of 16.1%. Thereafter, as distribution gains cease and operating margins hover around 20%, we expect revenue and earnings per share growth will stabilize around 1.5% and 9%, respectively.