In 2016, General Mills stock traded at a price of $72 per share despite earning only $2.92 per share in net profits. That was a P/E ratio of 24. That was well above the blended P/E ratio of 17.8 that had characterized the past three decades of General Mill’s valuation from 1985 through 2015. This elevated P/E ratio was especially ominous for a company that was only growing profits by 4-6%.
If you are going to ignore your better judgment concerning P/E ratios, you should run towards Amazon, Alphabet f/k/a Google, Visa, and Mastercard stock. At least with those companies, the double-digit growth has a fair chance of bailing you out because the subsequent decline in the P/E ratio can be offset a fair amount by the higher profit base.
It would not be particularly intelligent to pay an elevated valuation for a business that is just mozy-ing along. Over the last two years, profits have only grown by 3% while the sale of cereals and other breakfast foods actually declined by 1%.
As the economy boomed and tax cuts came, the investor community at large realized that paying a 25% premium for a business that is essentially growing at the rate of inflation constituted a valuation in need of correction.
During the past two years, as interest rates began to rise and the difficulty of maintaining sales for traditional breakfast-y and snack items became apparent, the price of General Mills has spiralled downward all the way to the present price of $42.
If you’re a retiree looking for income, the terms of General Mills are far more favorable than any other time dating back to at least 2013.
With 2018 earnings expected to be around $3.20 per share, the P/E ratio of the stock is down to 13 (technically, that’s an even better valuation than was available during the financial crisis when General Mills traded at a valuation of 14x earnings).
The annual dividend, which currently sits at $1.96 per year, now sits at 4.7%. If you are looking for stable income, and are not looking for knock-the-lights capital appreciation, General Mills is worthy of consideration right now.
The company is augmenting earnings by purchasing the double-digit growing Blue Buffalo pet food brand for $8 billion, a portion of which will be financed by the issuance of 22 million shares of General Mills stock (if you own Blue Buffalo stock, you should be excited to be acquiring shares a bit on the cheap; if you are a current General Mills shareholder, you should be wondering why management didn’t do this dilutive acquisition two years ago when the share issuance would’ve cost a third less).
But I digress. For income investors that own General Mills, your dividend is backed up by the earnings power of some all-weather brands that are not going away from the grocery store anytime soon–Wheaties, Cheerios, Bisquick, Annie’s Macaroni and Cheese, Progresso, and Yoplait Yogurt. That is a very solid core portfolio capable of supporting a stable and growing income stream for the rest of your life.
Even though the growth of these core brands has slowed down to 3-4% annually, the valuation has likely reached the point where you are being compensated for the slow growth. With a 4.7% dividend, you don’t need a whole lot else to go right in order to earn respectable return. A 4.7% dividend plus 3.5% earnings per share growth can give you very respectable 8.2% annual returns, and maybe a bit higher over time if the P/E ratio expands a bit in the event that General Mills can pull off a year or two of 5-7% annual growth along the way (something that shouldn’t be considered impossible since, after all, General Mills grew earnings per share at the rate of 6.8% annually over the past ten years).
If you are trying to be a heat-seeking missile that grows wealth as quickly as possible by ownership of the most growth-y businesses, General Mills should not be on your radar. But if you are looking for a real dividend income stream backed by stale yet enduring consumer brands that have generations of life left in them, you aren’t going to find many (if any) companies of superior earnings quality yielding above 4.7%.
Warren Buffett said that if you are truly patient, you almost always get your price. If you buy $10,000 worth of General Mills today, you will collect around $6,200 in cumulative dividends over the next decade while watching your annual dividend stream rise from $470 to around $670 or so. Assuming no dividend reinvestment, the value of your $10,000 will probably increase to somewhere between $15,000 and $17,000. If some loaded up on General Mills stock in an IRA, and reinvested for the next decade, the total value would probably be somewhere around $26,000 as you’d get an extra $2,000-$3,000 in total wealth by patiently letting your dividends compound in a tax-efficient manner. If you’re in capital preservation and income mode, General Mills is the kind of stock to consider right now.