A Good Catch for Dividend Lovers

05/25/2012 11:45 am EST


John Heinzl

Reporter and Columnist, GlobeInvestor.com

Despite recent gains, High Liner Foods still offers a tempting valuation, provided investors can stomach a lack of liquidity, writes John Heinzl, reporter and columnist for Globe Investor.

For High Liner Foods (Toronto: HLF), things have been going rather swimmingly.

Buoyed by last year’s $233 million acquisition of Icelandic USA, the Lunenburg, Nova Scotia-based processor and marketer of frozen seafood is coming off a first quarter in which sales and profits blew past estimates.

Its stock has returned 33% in the past year, including dividends, compared with a loss of 13.1% for the S&P/TSX composite index. And the shares are rated a "buy" by all three analysts who follow the company.

So is all the good news already baked into the price? Hardly. If anything, the stock is still a bit underdone, analysts say.

"A lack of liquidity is keeping most investors away, and therefore the stock trades at lower multiples than its peers," Octagan Capital analyst Bob Gibson said in a recent note, in which he reiterated his "buy" recommendation and $24 target price.

Indeed, High Liner’s voting stock, under the ticker HLF, typically trade only a few thousand shares a day on the Toronto Stock Exchange, making it a challenge to accumulate a large position quickly or sell in a hurry at a reasonable price. (The non-voting shares—HLF.A—are even less liquid; on most days not a single share changes hands.)

Yet, for investors who can live with such thin volumes, High Liner’s voting shares offer a tempting valuation, Gibson said.

The shares trade at a multiple of about 10.5 times estimated earnings over the next 12 months—a hefty discount to the average forward price-to-earnings multiple of 14.9 for comparable companies (a group that comprises Maple Leaf Foods (Toronto: MFI), Saputo (Toronto: SAP), George Weston (Toronto: WN), Cal-Maine Foods (CALM), and B&G Foods (BGS)).

Even as High Liner’s valuation lags its peers, the company is riding several favorable waves.

Thanks to faster-than-expected cost savings from the Icelandic USA acquisition—which includes the planned closing of two underutilized plants in Burin, Newfoundland, and Danvers, Massachusetts—High Liner will "easily beat" its target for reaching $100 million in earnings before interest, taxes, depreciation, and amortization (EBITDA) by 2015, said Beacon Securities analyst Michael Mills.

It will reach that milestone "by 2013 at the latest" and possibly as early as this year. "The acquisition of Icelandic USA is looking like a home run," he said in a note, in which he upgraded his rating to "buy" from "hold" and raised his target price on the voting shares to $25 from $22.

High Liner is also enjoying success with new products, such as the Flame Savors line—called Fire Roasters in the US market—which are seared over an open flame. Flame Savors "shows potential to be our best retail product launch ever," Henry Demone, High Liner’s president and CEO, said on the May 11 conference call.

What’s more, High Liner—which buys from global suppliers and no longer catches any fish itself—stands to benefit from falling prices for several species. Cod prices, for example, are down 5% to 10%, reflecting higher quotas in many fisheries around the world and soft demand in southern Europe.

Cod is "our most important species by value, and in fact, we’re the biggest cod buyer in the world, so that’s important for us," Demone said.

Prices for Alaskan pollock, farmed shrimp, and farmed tilapia have also eased recently. The cost savings won’t filter down to High Liner’s bottom line until the second half.

Among all the positives, however, there is a downside—particularly for dividend investors. After serving up seven dividend hikes from July 2008 to May 2011, High Liner has gone more than a year without an increase as it focuses on reducing its $355.9 million debt load.

With a debt ratio of about 3.9 times forward EBITDA and free cash flow of about $40 illion a year, "it will take almost three years for High Liner to get back to a more comfortable three times debt/forward EBITDA ratio," Gibson said.

Mills is more optimistic. He said High Liner could raise its dividend by 20% in 2013. The current dividend is 40 cents annually, for a yield of about 1.9%.

"While the shares remain highly illiquid, investors that are able to establish a position are expected to be rewarded with a defensive-oriented, profitable, income-generating investment," Mills said.

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