After the tumultuous year dairy processor Dean Foods had, now might be a good time to review what happened that brought the stock down this past summer only to have it skyrocket again.
Reviewing the events of yesterday gives you a chance to decide whether it's still right for your portfolio today and whether it makes sense to buy more shares tomorrow.
Cream of the crop
As the dean of dairy in the U.S., it's not easy for Dean Foods being in a volatile, commodity-based business. This past summer, the Midwest found itself in the grips of the worst drought in 50 years, with corn prices surging to record highs. Whereas it was a boon to fertilizer stocks like PotashCorp. and Terra Nitrogen to have the drought rip through, according to the Department of Agriculture, 90% of the Corn Belt -- farmers would need more potash and nitrogen to replenish their fields -- Dean's stock tanked as Wall Street feared rising costs would gnaw away at margins like a cow chewing its cud.
There were additional pressures too, as supermarket chain SUPERVALU got more promotional to better compete against rivals Kroger and Wal-Mart. That heightened analyst concerns that other chains would do the same and dairy might become a loss leader.
With the price of milk tightly regulated, Dean operates on margins thinner than skim milk. It boasts some thick and rich gross margins, but net margins typically range in the 1% to 2% area. There's not much room to play with there.
So what Dean has done to get better control over its cost structure and return value to shareholders is to milk its assets for all they're worth. It got its stock to turn around by announcing the IPO of its organic foods division, WhiteWave Foods . The move ought to have investors paying a premium for shares in an enterprise that is deemed healthier, like Whole Foods Market, carries higher profits, and has greater sales potential than the fresh milk processor could have realized had it retained the business.
What Dean did retain was an 80% ownership stake in the spinoff, keeping control of key brands including Horizon Organic milk, International Delight Creamers, Silk soymilk, and Land O' Lakes creamer. It used the proceeds from the remaining 20% to pay down some of its debt.
With the segment enjoying 64% growth over the last five years compared to 24% growth in the non-organic market, it was viewed as an opportune time to spin out the division. It also narrowed Dean's focus to more of its pure dairy business, which set the stage for its next move: selling off its Morningstar frozen dairy food business to Canadian operator Saputo for $1.45 billion. Again, proceeds were used to pay down debt.
Praying for cream, living with skim
Ignoring for the moment its retained ownership interest in WhiteWave, Dean Foods will be left as fresh-milk purveyor to regional markets, and that brings with it new risks for the future. According to an article in The Wall Street Journal, Agriculture Department statistics show that milk consumption is at some of its lowest levels ever, having fallen 30% since 1975, leading some industry executives to claim it's reached a "crisis" point. Sales volume declines are accelerating: The average number of gallons drunk in the U.S. declined 3.3% to 20.2 gallons last year, the sharpest rate of decline since the mid-'70s.
It looks like Dean has skimmed off the cream and left itself with curdled milk, the weakest part of the business. But that WhiteWave interest can be added back in now.
Dean Foods was able to post surprisingly strong third-quarter numbers that beat analyst expectations on the strength of the organic business, which grew 13% while sales volumes at Morningstar were up 6%. The legacy fresh-dairy business declined 1.4%, but Dean says it was better than the industry as a whole.
So 2012 became a year that saw Dean Foods streamline its operations and churn out shareholder value by spinning off or selling businesses not directly associated with its primary line of work. The moves should cut costs and allow it to be a nimbler player as it reduces expenses and its debt burden. Whatever comes of these maneuvers, there's no sense in investors crying over spilled milk because of it.
The article Dean Foods Milks Its Assets in 2012 originally appeared on Fool.com.
Rich Duprey owns shares of Dean Foods. The Motley Fool owns shares of Dean Foods Company, SUPERVALU, and Whole Foods Market. Motley Fool newsletter services recommend SUPERVALU and Whole Foods Market. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.