Description

Long NOMD - $31.15

At ~$31/share today, we believe that Nomad Foods (NOMD) – a “Sir Martin Franklin SPAC” focused on the Frozen Foods business – is a stable double-digit compounder with multiple avenues to drive incremental value creation. NOMD was previously written up in August 2020 by valueinvestor03, who did a great job in going over the company’s history. We suggest reading that writeup; this writeup will focus more on why we view this idea as timely and what we believe to be the core value drivers going forward.

Here is our incremental thesis in brief:

1. Sir Martin Franklin has a history of “spinning glass into gold” via niche roll-up strategies and SPAC’s with aligned incentives (Ex. Benson Eyecare, Jarden, APi Group, and – we submit – possibly NOMD as well).

2. NOMD’s recent acquisition of Fortenova highlights not only NOMD’s B/S capacity, but also their ability to intelligently direct that capacity towards creative & accretive deals.

3. NOMD trades at a tremendous discount to consumer staples peers. NOMD trades at ~14x 2023E EPS, whereas peers such as Mondelez, Nestle, and even Kraft Heinz trade between ~16-22x 2023E EPS.

4. Additionally, NOMD has its hands in several other thematic call options which help defend against the bear theses that Frozen Food might be a secularly declining category (Ex. Plant-based food/proteins, green-shoots in the food service end market vs. the grocery end market)

Ultimately, this is how we believe the NOMD story will play out: NOMD’s sponsors will continue consolidating the fragmented Frozen Foods category with their accretive bolt-on acquisition strategy. We count on them to be savvy capital allocators, not afraid of leverage and stingy about using stock (see Jarden example, below). As NOMD’s business steadily grows into its mid-cap destiny, it should begin to receive a fuller CPG multiple at which point the sponsors will likely look to exit via an outright sale of the business. In the interim, we have a stable business with good capital allocators at the helm trading at a sizeable discount to peers with a HSD-LDD (clean) earnings CAGR. For a post-Fortenova acquisition base case, we arrive at $2.30 in 2023E EPS which, at a well-deserved 17x multiple, would result in a ~$39 stock (or a ~16% IRR through 2022YE). Our bull case below assumes more aggressive capital allocation after the acquisition and our bear case addresses a disappointing organic growth scenario.

Thesis Points

1. Sir Martin Franklin has a history of “spinning glass into gold” via niche roll-up strategies and SPAC’s with aligned incentives (Ex. Benson Eyecare, Jarden, APi Group, and – we submit – possibly NOMD as well).

If you’re a freak podcast enthusiast like my analyst, you might enjoy this episode of Masters in Business where Barry Ritholtz interviews Sir Martin Franklin on his background and career. Franklin has an excellent track record of rolling-up and squeezing synergies out of a variety of good assets within a specific vertical. The most cited example of his success is Jarden, which traded under the ticker “JAH” before getting sold to Newell Brands in early 2016.

The table below shows an overview of how JAH’s fundamentals grew over ~20 years and what drove the majority of the returns. As you can see, sales growth CAGR’d at ~20% (obviously a lot of this was inorganic growth), which was roughly inline with the total return of the stock over the same time period. Slight margin expansion over time drove Normalized FCF (ie, excluding changes in working capital) to CAGR over the same time period at ~29%, and slightly offsetting this was FDSO CAGR’ing at ~5%, bringing Normalized FCF/share to a ~20% CAGR – roughly inline with the sales CAGR as well as the resultant stock price CAGR.

2. NOMD’s recent acquisition of Fortenova highlights not only NOMD’s B/S capacity, but also their ability to intelligently direct that capacity towards creative & accretive deals.

In our view, NOMD’s recent acquisition of Fortenova was a classic example of “Franklin-style” deal-making. NOMD used a reasonable amount of leverage to buy an asset with a collection of leading brands (Ledo, Frikom, etc.) in an appropriate business (and geographic) adjacency. For what it is, the deal was also impressively accretive (HSD in year 1) even before synergies. We expect this playbook of cheap-debt-financed acquisitions followed by deleveraging/buybacks to continue over time as NOMD builds its Frozen Food empire.

3. NOMD trades at a tremendous discount to consumer staples peers. NOMD trades at ~14x 2023E EPS, whereas peers such as Mondelez, Nestle, and even Kraft Heinz trade between ~16-22x 2023E EPS.

This point is fairly straightforward, but NOMD trades at a tremendous (in our view) discount to Consumer Staples peers for (again, in our view) no good reasons. NOMD is essentially a “growth-y” Consumer Staples name with a talented allocator at the helm, yet it trades at a discount to almost every other reasonable comp (even well-debated melting ice cubes like KHC). One can speculate the current reasons for the discount (size, geographic focus, relative new-ness), but none of these seem structural or something that can’t dissipate over time.

4. Additionally, NOMD has its hands in several other thematic call options which help defend against the bear theses that Frozen Food might be a secularly declining category (Ex. Plant-based food/proteins, green-shoots in the food service end market vs. the grocery end market)

Lastly, we note several subtleties in the business which represent thematic call options going forward and help defend against the bear case we’ve heard before that the Frozen Food category is a secularly declining one.

First, NOMD has been focusing on increasing their plant-based foods/proteins offering, which is well known to be a growing secular trend. NOMD’s plant-based food brand – Green Cuisine – has had a tremendous performance thus far in the UK, as an example. Green Cuisine’s market share has grown from 0% to 7% in the UK and growth here has no signs of slowing down. Tesco – one of the largest retailers in both the UK and the world – has publicly stated that they intend on tripling their plant-based foods offering over just the next few years. NOMD will stand to benefit tremendously from this. Obviously if you look at the valuation of a business like BYND (double-digit sales multiple), it’s likely only a matter of time before this business mix-shift begins to pull NOMD’s multiple upward.

Second, roughly 5% of NOMD’s business comes from food service as opposed to grocery sales. This food service business has been declining -15% through covid, resulting in roughly 75bp drag to NOMD’s overall growth rate (~9% organic 2Q20-4Q20). As the world re-opens and pent-up demand drives a boom in dining out and experiences, this can help offset any declines in the grocery-based Frozen Food base business.

Valuation & Risks

We enjoy simple businesses run by intelligent managers that have a solid chance at compounding in the double-digits over the longer-term. We believe NOMD is one of them. Modeling the out-year returns here should not be too difficult.

In a base case, as we model in point #2 above, we arrive at a 2023E EPS figure of ~$2.30 USD. Assuming a 17x forward earnings multiple, we arrive at a ~$39 price target by 2022YE, for a ~16% IRR.

In a bull case with ~$500m allocated to buybacks/debt-paydown in 2022/2023, we arrive at a 2023E EPS figure of ~$2.50 USD. In such a case, if NOMD can receive a 19-20x+ forward earnings multiple, we arrive at a ~$48-50+ price target by 2022YE, for a ~30-35%+ IRR.

In a bear case where growth in the base-business flatlines in 2022/2023, no capital is allocated towards buybacks/debt-paydown, and base-business margins don’t expand, we arrive at a 2023E EPS figure of ~$2.10. Assuming a somewhat conservative ~15x forward earnings multiple would get us to a 0-1% IRR from here.

Beyond 2023 as well, shareholders should enjoy a stable HSD-LDD earnings compounder over the long-haul. This earnings growth algorithm is driven by +2-3% organic scales growth, +2-3% from a little incremental margin expansion (~50 or so bps/yr), and another about +2-4% from intelligent capital allocation, bringing the total algorithm to a ~6-10% earnings and FCF CAGR.

Lastly, as we have mentioned several times already in this writeup, this is a stable story with most of the returns coming from execution on the part of management. Thus, the largest risk here in our view would be an execution misstep or extraordinarily bad capital allocation, neither of which we think are terribly likely.

Catalyst

- Continued execution on capital allocation policies (accretive M&A in adjacencies; debt paydown; capital return via buybacks)

- Upward re-rating over time as NOMD grows its Frozen Food empire