Company Reports

Despite Saputo's extensive portfolio of dairy products spanning the cheese, cooking spray, and spreads aisles, its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability. More critically, we believe the lack of differentiation between its products and those of branded competitors and private label fails to suggest the existence of a brand intangible asset. The consolidation among dairy producers (that have amassed greater control over the price of raw milk) further exacerbates Saputo's standing, in our view. Suggestive of the firm's lack of competitive edge, our average return on invested capital (including goodwill) sits just a touch above our 8% weighted average cost of capital estimate.

The volatile commodity environment has been plaguing no-moat Saputo’s results in recent quarters, and the third quarter was no exception—net sales fell 7% to CAD 4.3 billion (including an unfavorable foreign exchange impact of CAD 280 million), and the EBITDA margin declined 100 basis points to 8.7%. In addition, Saputo recorded a CAD 265 million noncash impairment charge in its Australia division due to challenging market conditions. This corroborates our view that the dairy processor’s fate largely hinges on market factors beyond its control, supporting its lack of pricing power in the commoditized dairy aisle.

Despite Saputo's extensive portfolio of dairy products spanning the cheese, cooking spray, and spreads aisles, its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability. More critically, we believe the lack of differentiation between its products and those of branded competitors and private label fails to suggest the existence of a brand intangible asset. The consolidation among dairy producers (that have amassed greater control over the price of raw milk) further exacerbates Saputo's standing, in our view. Suggestive of the firm's lack of competitive edge, our average return on invested capital (including goodwill) sits just a touch above our 8% weighted average cost of capital estimate.

No-moat Saputo’s shares spiraled (down 6%-7%) following its mixed second-quarter report—net sales fell 3.1% to CAD 4.3 million due to lackluster volumes, but its EBITDA margin inflated 90 basis points to 9.2% mainly on favorable commodity prices. While we plan to edge down our near-term sales forecast considering the muted top-line momentum, we see no reason to alter our long-term prospects (low-single-digit annual average sales growth and nearly 10% EBITDA margins) and continue to believe that efforts to automate and optimize its fixed asset base will yield operational efficiencies and agility in the coming years. All in, our CAD 25.50 fair value estimate should stay largely unchanged, rendering shares a tad overpriced. For investors seeking exposure to the consumer staples realm, we’d point to no-moat Kraft Heinz, which trades at a 40% discount to our $53 intrinsic valuation while boasting a 4%-plus dividend yield.

Despite Saputo's extensive portfolio of dairy products spanning the cheese, cooking spray, and spreads aisles, its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability. More critically, we believe the lack of differentiation between its products and those of branded competitors and private label fails to suggest the existence of a brand intangible asset. Further, we believe Saputo hasn't carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. As a result, we expect Saputo to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of 8.5% over the next 10 years (just a touch above our 8% weighted average cost of capital estimate).

We think no-moat Saputo’s fiscal 2024 first-quarter results emphasize its vulnerability to commodity cost headwinds and inability to wield pricing power over its commoditized dairy portfolio. Revenue of CAD 4.2 billion (down 2.8%) and adjusted EPS of CAD 0.36 lag our full-year estimates of 3.8% growth and CAD 1.83, respectively; as such, we intend to reduce our near-term forecast. More critically, a volatile cost environment and macro pressures prompted Saputo to push its CAD 2.125 billion EBITDA target until after fiscal 2025. However, our model had already called for an elongated horizon over which to hit this mark, with the firm not reaching its aims until fiscal 2028. When taken with our unchanged long-term outlook (low-single-digit average sales growth and a high-single-digit EBITDA margin by fiscal 2033), we don’t plan a material change to our CAD 26.30 fair value estimate, rendering shares a touch rich.

Despite Saputo's extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. We don't believe Saputo has carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label fails to suggest the existence of a brand intangible asset. As a result, we expect Saputo to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of 8.7% over the next 10 years (just a touch above our 8% weighted average cost of capital estimate).

Despite no-moat Saputo's solid fiscal 2023 fourth-quarter results, shares plummeted 11%-12%, as management alluded to a murky fiscal 2024 outlook due to softer demand and an unfavorable commodity environment. Still, we don't plan a material change in our CAD 26.50 fair value estimate, and we view shares as overvalued. We've held that the market is overly optimistic about Saputo's ability to reach its fiscal 2025 target of CAD 2.125 billion adjusted EBITDA, overlooking the volatile nature of the commodity market and the firm's lack of pricing power, which underpins our no moat rating. Our fiscal 2025 adjusted EBITDA forecast sits below CAD 2 billion.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect Saputo to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of 8.9% over the next 10 years (just a touch above our 7.9% weighted average cost of capital estimate).

Saputo’s strong momentum extended through the third quarter, as reflected in its top-line growth of 17.6% (to CAD 4.6 billion), driven entirely by higher prices as volumes remained flat. While seemingly impressive at first blush (we’d normally expect a drop in volume with such pricing), it’s tough to obtain a clear view on elasticities. In this context, half of the sales increase (CAD 275 million) in the U.S. (47% of sales) was attributable to the positive impact from commodity prices, which aren’t directly linked to volumes. In Europe (6% of sales), however, management qualitatively suggested declining volumes. And we expect this trend will manifest across geographic segments (in line with management expectations) as cash-strained consumers will likely opt to purchase lower-priced private-label fare eventually (which dominate nearly 30% of the North American dairy aisle, per Euromonitor, versus the high-teens to low-20 levels that tend to characterize overall U.S. food and beverage). To the extent Saputo takes further pricing actions, this could further incite trade down given its commoditized product portfolio that lacks pricing power (thus, our no-moat rating). We intend to reevaluate our near-term forecasts, but our long-term view (low-single-digit top-line growth and high-single-digit operating margins) stays intact. Thus, we don’t expect a material change in our CAD 26 fair value estimate and view shares (which trade 40% above our intrinsic valuation) as overvalued.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect Saputo to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of 8.6% over the next 10 years (generally aligned with our 7.9% weighted average cost of capital estimate).

No-moat Saputo booked solid second-quarter results, with sales advancing 20.9% (to CAD 4.46 billion, including CAD 20 million from acquisitions and negative CAD 12 million from foreign exchange rate), a byproduct of higher prices, as volumes held flat; management qualitatively referenced consumers have started to trade down across its categories around the globe. However, in the same breath, it suggested intentions to continue pushing forward with additional pricing, if necessary, which we surmise could ultimately suppress volume and its share position further, due to the highly commoditized and perishable nature of Saputo’s product portfolio. In this context, Saputo now holds less than 3% share in the North American dairy and alternatives category as of August 2022 (down 60 basis points from 3.3% a year ago), where roughly 27% of the market is dominated by private-label offerings, per Euromonitor.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect it to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of just 8%-9% over the next 10 years (generally in line with our weighted average cost of capital estimate).

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect it to generate low-single-digit revenue growth over the next 10 years (generally in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of just 8%-9% over the next 10 years (generally in line with our weighted average cost of capital estimate).

No-moat Saputo delivered solid first-quarter sales, which soared 24.1% (to CAD 4.3 billion, partly aided by CAD 41 million from acquisitions though unfavorable foreign exchange ate into results by CAD 7 million). The major contributor was higher prices, but we surmise broad-based inflation in dairy (13%) and cheese (9%) helped dull the hit to volumes, which management qualitatively suggested held stable.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the firm’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect it to generate low-single-digit revenue growth over the next 10 years (in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of just north of 8% over the next 10 years (generally in line with our weighted average cost of capital estimate).

While pricing initiatives supported Saputo’s 5.2% top-line growth (to CAD 15 billion, including CAD 58 million from acquisitions and negative CAD 307 million from USD/CAD exchange rate) in fiscal 2022 (March year-end), the dairy processor closed the year with an adjusted EBITDA margin of a mere 7.7%, down 260 basis points versus the prior year. In this context, while volume held up across the geographic regions, pricing actions undertaken during the quarter failed to curb heightened input costs, labor shortages, and the negative spread between the block price of cheese and cost of milk faced by the operator. Margin deterioration was particularly pronounced in the U.S. segment (down 54.8%, 43% of sales), with negative spread contributing roughly 37% of the downdraft, indicating Saputo’s vulnerability to volatile market conditions. While management announced that it would selectively raise prices as the situation warrants, we posit such efforts will drag down volume, given its highly commoditized product portfolio that lacks pricing power, which underpins our no-moat rating. In addition, we deem continued price hikes would ultimately prompt consumers to trade down to lower-cost private-label offerings—which dominated 33% of the dairy category in North America in 2021, versus the less than 4% share held by Saputo, per Euromonitor.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the company’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect it to generate low-single-digit revenue growth over the next 10 years (in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of nearly 8% over the next 10 years (generally in line with our weighted average cost of capital estimate).

After digesting Saputo’s third-quarter results, we don’t anticipate a material change to our CAD 25.50 fair value estimate, or our long-term projections (low-single-digit annual sales growth and high-single-digit operating margins), even after incorporating the reversal of our prior expectations for a U.S corporate tax rate increase in 2022 and time value. However, shares still trade north of our valuation, and we’d suggest investors remain on the sidelines.

While Saputo has an extensive portfolio of dairy products (spanning the cheese, cooking spray, and spreads aisles), its exposure to such a highly commoditized industry means fluctuations in raw material prices (which account for up to 85% of Saputo’s costs) can limit the company’s control of profitability from year to year. In our view, Saputo has not carved out an economic moat due to consolidation among dairy producers, which have amassed greater control over the price of raw milk. Further, we believe the lack of differentiation between its products and those of branded competitors and private label doesn’t suggest the existence of a brand intangible asset. As a result, we expect it to generate low-single-digit revenue growth over the next 10 years (in line with the overall dairy market, which we expect to grow around 2%-3%) and an average return on invested capital (including goodwill) of nearly 9% (a touch above our 8% weighted average cost of capital estimate).