Two Stellar Consumer Firms to Present at Our Stocks Forum

The fifth annual Morningstar Stocks Forum will be held November 4, 2010, in Chicago. Last year, the forum brought together more than 300 institutional clients, registered investment advisors, and high-net-worth individuals. This year, 30 high-quality companies are scheduled to present, including two leading consumer staple firms:  General Mills (GIS), and  McCormick (MKC). We are looking forward to having General Mills' CFO Donal Mulligan and McCormick treasurer Paul Beard speaking about their companies' prospects and strategies in an uncertain consumer environment. Both of these firms have presented at our conference in the past, but we believe that each of these companies maintains sustainable competitive advantages, and are worthy of long-term investors' consideration.

Moats Abound for These Industry Standouts
We have assigned a narrow economic moat to General Mills, the second-largest producer of ready-to-eat cereals in the U.S. behind  Kellogg (K), because of its portfolio of market-leading brands and expansive global network. We believe that the brand strength inherent in General Mills' product portfolio is evident in the fact that despite the highly competitive operating environment, the packaged food firm's branded cereal offerings gained more than 150 basis points of dollar share over the past two years, according to AC Nielsen. Further, we believe General Mills' focus on increasing product innovation in areas that are resonating with consumers, as well as investing in the advertising for its core brands, should ensure that its narrow moat remains intact.

McCormick's unparalleled scale and pricing power have also earned it a wide economic moat. With leading brands such as McCormick, Lawry's, and Old Bay, the firm controls at least half of the market for spices and seasonings in North America, and is more than twice the size of its next-largest branded competitor. McCormick's dominance in its category is marked by a unique feature: its private-label presence. As such, the firm has captured sales from consumers who are brand loyal, and also those who have traded down to private-label offerings. We contend that McCormick's broad geographic sourcing network and brand strength ensures that no other competitor can gain significant scale to affect McCormick's brand pricing.

Behind each of these companies' moats is a successful management team. Individual investors attending the 2010 forum will get the rare opportunity of direct access to General Mills and McCormick senior management. We expect their presentations will discuss how they deal with the constant pressure for short-term results, while also managing the long-term strategies that make their businesses fundamentally attractive. For those who can't attend the event, Morningstar.com will offer on-the-spot blog coverage, followed up by video interviews with attendees and presenters

Private Label Penetration, Promotional Pricing, and Input Cost Pressures Present Challenges
Despite the obvious competitive advantages each of these firms possess, neither is without its share of challenges. Over the past two years, the market for consumer packaged goods has been particularly challenging, as cash-strapped consumers exerted their influence by switching brands, trading into private-label offerings, or tightening their purse strings entirely. Further, input cost inflation is beginning to rear is ugly head once again, and is likely to pressure the profitability of firms throughout the consumer goods industry over the near-term due to supply constraints, and longer-term due to increasing demand in emerging and developing markets.

At the 2010 Morningstar Stocks Forum, we hope to gain more insights with regard to the strategies these two consumer product firms are enacting to stem private-label products' share gains. Further, we anticipate that we will garner additional details on whether price promotions are driving volumes or what specific tactics these firms intend to employ to prop up volumes in this weak economic environment. Finally, we expect to hear an update on the relationships consumer product firms maintain with retailers, particularly given retailers' increasing bargaining power, specifically relating to SKU rationalization and brand pressure.

Lack of Growth Should Not Dissuade Investors
While neither General Mills nor McCormick are likely to set the market on fire with their respective growth prospects, both have long track records of consis­tent cash flow generation. Their competitive advantages are a direct function of their dominant market shares, and are less an outgrowth of any compelling qualities the cat­egory may possess. Although we believe that General Mills and McCormick are fairly valued at current market prices, we would recommend that long-term investors looking for some exposure to the consumer staples space take a closer look at both of these companies.

 General Mills GIS 
Uncertainty Rating: Low | Price/Fair Value Estimate: 1.04
We believe General Mills' shares are fairly valued at its current price, but we would require only a modest margin of safety before taking a position in General Mills' stock if concerns about competitive pressures or rising commodity costs weigh on the stock, given the company's consistent fundamentals. In addition, General Mills' ability to generate enormous amounts of free cash flow, even in such a difficult operating environment, is a huge plus for shareholders. In fiscal year 2010, the firm produced nearly $1.8 billion of free cash flow, which amounts to about 10% of sales, in line with the five-year historical average. We expect General Mills to reinvest any excess cash into the business, or return it to shareholders in the form of higher dividends or additional share repurchases.

 McCormick (MKC) 
Uncertainty Rating: Low | Price/Fair Value Estimate: 1.07  
At a current market price of $43 per share, we believe the stock is nearly fairly valued. That said, if the stock were to trade down closer to our Consider Buy price, reflecting concerns about input costs or retailer pressure, we would look to recommend the shares. McCormick generates ample cash flow, as free cash flow averaged more than 8% of sales over the past five years, and we expect that the firm will continue generating a similar level of cash flow over the next five years. McCormick has paid dividends every year since 1925, and has increased its annual dividend for 24 consecutive years.