Hershey: A Sweet Idea

03/06/2017 7:00 am EST

Focus: DIVIDEND

David Coleman

Quantitative Portfolio Strategist, Argus Research

We are upgrading Hershey Co. (HSY) to BUY from HOLD based on valuation and management’s strong 2017 guidance, explains David Coleman, analyst with Argus Research.

Hershey Co. produces and markets chocolate and other confections, as well as chocolate-related grocery products. Its major brands include Hershey’s, Jolly Rancher, Kit Kat, Heath, Twizzlers, Hershey Bliss and Reese’ s.

Hershey has expanded into new categories and regional markets in recent years with the acquisitions of Brookside, Krave, Shanghai Golden Monkey and Ripple Brand Collective, LLC.

The company reported better-than-expected 4Q EPS on February 3, and projects solid 2017 EPS growth of 7%-9%.  For the full year, adjusted EPS came to $4.41, up from $4.12 a year earlier. Reported operating profit was $1.2 billion, up from $1.0 billion in 2015.

Along with the 4Q results, the company projected 2017 adjusted EPS growth of 7%-9%, implying EPS of $4.72-$4.81. The guidance excludes $0.06 of expected pension expense and $0.10-$0.12 for business realignment costs. Hershey also projects 2%-3% sales growth and a tax rate of 28.5%-29.0%.

We are raising our 2017 EPS estimate to $4.74 from $4.63 and initiating a 2018 estimate of $5.02. Our estimates for both years are in line with consensus.

HSY has a $500 million stock buyback program. In 2016, it repurchased $420 million of its stock. HSY pays a dividend. In July 2016, the company raised its quarterly payout by 6% to $0.618 per share, or $2.47 annually, for a yield of about 2.3%.

The shares also appear more attractive based on historical and peer average P/E multiples. The stock trades at 22.7-times our 2017 non- GAAP EPS forecast, below the peer average of 23.5 and toward the low end of the five-year historical range of 21.5-28.3.

The price/ sales multiple of 3.1 is above the peer average of 2.4 and in the upper half of the historical range of 2.6-3.4. HSY also trades at a price/book ratio of 19.8, above the peer average of 11.6 but near the low end of the five-year range of 18.9-33.3.

Given the company’s improving valuation metrics and prospects for strong earnings in 2017, we are raising our rating to BUY. Our target price of $125, combined with the dividend, implies a potential total return of 17% from current levels.

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