Wednesday, November 5, 2008

George Weston Stable, But Cheap?

George Weston Limited (WN) has baking, dairy, and food distribution operations in Canada under the Loblaws grocery store brand. Its stock has taken a beating over the last 1.5 years, having lost around 35% of its value. One would not expect spending to drop on essential items such as groceries (as per our discussion earlier on the cyclicality of various industries), so could this represent a value opportunity?

If one looks at the average operating earnings of this company over the last several years (which we advise in order to get an understanding of a mature company's earnings power), they are indeed fairly stable, suggesting recessions don't hurt this company. For this reason, we are willing to put up with higher debt levels than we otherwise would, as WN has a debt/capital ratio above 60%. (This is the exact opposite situation of what we would require for an airline, as we discussed here.)

A simple look at average operating earnings over the last business cycle suggests the company is indeed undervalued. However, your analysis cannot stop there. You must ensure you understand the company's situation before this can be a buy (i.e. this is where circle of competence comes into play). In the last 3 years, operating margins have been lower than they have been in the past. Why? Walmart has entered the grocery business in Canada, representing formidable competition for Loblaws. For those who ignore investing within their circle of competence, this could represent a value trap.

There's another interesting value twist to this company. It has been in operation since 1919 and has bought most of the land for its locations. As such, the stock could offer downside protection to investors even if the operations don't generate decent returns. The problem here for individual investors is that this is a multi-billion dollar company, and so institutions and analysts have made detailed appraisals of the land values, and as such render the stock price more efficient. This is why we much prefer buying smaller companies, and they do perform better; it's too expensive for analysts to get involved when the amount of money that can be invested by institutions is small.

Disclosure: None

1 comment:

Anonymous said...

I think their recent move to sell their dairy operations (Neilson) was a smart move after trying to shop the divisio for quite some time. I think this is a case of my Value Rule where a company doesn't "do what they do best". They've got their hand in too many things and operation of Loblaw has been very sad and disappointing. They need to get that supply chain on target and operating - otherwise their share price will never recover.