In a May 23 update by managing director Jason English, Goldman lowered its assessment of General Mills, Inc. from “neutral,” with a 12-month price target of $58. In trading May 24 on the New York Stock Exchange, General Mills shares closed at $62.37, down 33¢, or 0.5%. The price was not far beneath the 52-week high of $65.49 set in early April.
An expectation that commodity price weakness may have largely run its course adds to concerns about prospects for General Mills in the Goldman analysis.
“A tide of tailwinds for the food industry has begun to subside as rates, which have inflated valuation, find a floor and commodities, which have flatter margins, cycle lows,” English said.
The commodity price situation compounds the problem of sluggish revenue growth, he said.
“The top line is under pressure, and U.S. Retail, which drives nearly three-quarters of the company’s operating profit, is witnessing weakness and share losses across categories,” English said.
He described yogurt as a “prime example” of a vulnerable category at General Mills. In addition to market share already lost, he said pending stock-keeping unit rationalization will prolong the losses.
A plus for the company is a promising outlook for General Mills’ International segment, poised to benefit from easing foreign exchange pressures. Still, as aggregate business pivots away from the United States, margins overall will suffer since international margins of 9.4% are less than half the U.S. Retail segment’s 22.5%, he said.
Sales trends for the U.S. business are not likely to improve, Goldman said.
“Looking forward we expect more of the same as we model limited organic growth,” English said. “After several periods of sku proliferation, General Mills is likely to face headwinds going forward as sku rationalization efforts, which have only recently begun, continue. Struggles in key categories persist as market share losses continue to mount and the most recent Nielsen data suggests that there is a broad-based share loss across most categories for General Mills.”
Goldman Sachs is forecasting persistent declines in U.S. Retail sales (excluding acquisitions) through fiscal year 2017 (year ends May 31) before stabilizing in the following two years.
While General Mills has pursued efforts to improve cost of goods productivity in recent years, Goldman Sachs said “the primary source of gross margin gains for the firm may be attributable to input cost relief.”
English said General Mills could prove Goldman’s projections too conservative if the company were to pursue more aggressive cost-cutting strategies.
While selling shares of General Mills may prove risky in a frothy merger and acquisition environment, English said the risk “cuts both ways.” He acknowledged that margin challenges facing General Mills may make the company an acquisition target for a buyer “willing to take bolder action to unlock inefficiencies.”
