, a maker of generic and store-brand goods and the recent buyer of Post Cereals, may boost sales and gain market share as Americans tighten their budget belts in the coming months. Ralcorp is the answer to the question: Who stands to benefit during an economic recession?
Ralcorp's net sales increased 12.9% during the third quarter of fiscal 2008. Earnings quadrupled to $45.8 million, or $1.73 a share, from $11.6 million, or 43 cents a share, in the same period a year earlier. It has passed on rising transportation and raw-materials costs to consumers without hurting demand because of the sheer cheapness of its food products, which include Cocoa Pebbles and Honeycomb cereals.
The U.S. food industry is dominated by big-name players such as
, which spend billions of dollars advertising their brands. Ralcorp can compete with its larger rivals because consumers tend to switch from brand-name products to generic alternatives during hard times.
Value-conscious Americans are trading down in a tough economy, which seems to be part of what's driving the company's remarkable performance this year, as evidenced by growth in both sales and volumes of key categories.
Ralcorp faces risks despite its favorable position in the U.S. food industry. The company has a weak cash position, significant debt and narrow margins. If the economy enters a prolonged recession, it is possible that brand-name competitors such as Cadbury, Schweppes, Heinz, General Mills and Kraft would lower prices to protect their market share. However, that scenario is currently improbable. Also, Ralcorp is shielded from foreign-exchange risks because it operates exclusively in the U.S.
Ralcorp's stock remains undervalued based on peer valuation, despite gaining 9.9% so far this year, compared with a decline of 3.1% for the S&P 500 Packaged Foods Index. Its price-to-earnings ratio stands at 13.06 as of Oct. 6, lower than the food products average of 19.44. The stock is also trading at a discount based on price to book, price to sales and price to cash flow.
Keep in mind that many of the stocks in Ralcorp's peer group have higher name recognition and branding power, which may explain why their stocks trade at a premium. But given current economic conditions, Ralcorp is in a position to outperform competitors.