Sanderson Farms, Inc. (SAFM)

“EAT MORE CHIKIN,” my favorite cows from Chick-fil-a say and now I’m on that bandwagon too. This month I’m bringing you the sexiest poultry processor you’ve ever scene albeit that’s not saying much. Sanderson Farms has an experienced management team, an expanding business in a growing market, a profitable product mix, a rock solid balance sheet and an income statement minting cash.

Alright already, enough with the small talk, where is the catalyst for minting a lowly shareholder a few bucks?
- Average tenure of management is 20 years
- 14% average revenue growth since 2000
- $214 million in Capital improvement projects over the last 3 years
- A new poultry processing plant in Waco TX that will have another 1.25M (17% increase) chickens crossing the road each week.
- Out of favor company, combined with a general market down turn, is presenting us with a quality undervalued company at today’s prices
- Historically lower price to value ratios at today’s prices

So how much again?

Discounted Cash Flow:
Assumptions
-   Free cash flow (using average free cash flow since 2002 and average maintenance expenditures since 2002 = 69.1M – 25M = 44.1M) I am using a longer running average given how cyclical the business can be. If I were to use 07 free cash flow minus maintenance expenditures of 74.1M, the margin of safety would be even better.
-   14% annual growth for 10 years (roughly a conservative average of the last 10 years)
-   3.5% terminal annual growth (who knows, maybe people stop eating chicken and the company breaks away from 60 years of growth)
-   Current stock price (33.47)
-   Shares outstanding (20.2M)
-   Discount Rate 12% (What the stock market would return on average)

Given these assumptions, if I were to “guess” or work backwards to the share price I would want to pay no more than $57.12 and if I can buy at today’s price of $33.47, I am buying at a 40% discount.

And that means how much?

Owner Earnings, Hypothetical Growth Rate, and Implied Stock Prices:
Assumptions:
- Capital expenditures - I am figuring the maintenance portion of capital expenditures only when figuring owner earnings. The Company estimates 25 million a year.
- 07 Owner Earnings – I estimated 74 million per year (free cash flow minus maintenance capital expenditures 99M-25M)

I am estimating 07’ owner earnings of 74 million and assuming that the market will bare 9X owner earnings at the low side and 12X on the high side based on historical ratios.

...........................................Owner Earnings........Implied............Compound
Current........Hypothetical........in 5 years….........Stock Price........Annual Stock
Stock Price....Growth Rate....(in $ millions).........in 5 years..............Returns
……………………………………......……………….low/high…........low/high
============================================================
...$33.47............ 5.0%................$ 94.6...................$42/$56..............5%/11%
...$33.47............10.0%................$119.3..................$53/$71.............10%/16%
...$33.47............15.0%................$149.0..................$66/89...............15%/21%
...$ 33.47............20.0%...............$184.4..................$82/110.............20%/27%