Nestlé - It's Too Much, Wait For It (OTCMKTS:NSRGY) (2024)

So, Nestlé (OTCPK:NSRGY) is a company I should have been looking into some time ago. Now I'm going to - and we'll see at what price you should be jumping into this Swiss food giant.

In this article, we'll take a closer look at both the company and Nestlé's valuation to see at what price we should be buyers of the company. There are some massive fundamental advantages to this company, which might be enough to sweeten the deal even at a high premium and relatively low yield as well as dividend growth.

Let's see what we have.

(Source: Neste)

Nestlé - What does the company do?

So, Nestlé is one of the largest food processing companies in the world - and it does operate worldwide. The company operates from outside of picturesque Vevey in Switzerland.

(Source: Wikipedia commons)

This is an AA-rated company with a market cap of nearly $360B. It has less than 7% debt/cap, making it one of the least indebted large companies in the world. It trades at a massive premium, which we'll look at later, and yields around 2%. Nestlé is also one of the largest shareholders of L'oreal (OTCPK:LRLCF), the largest cosmetics company in the world.

The company is among the top 100 of the largest public companies in the world. Its largest product areas include:

• Baby food
• Medical Food
• Bottled Water
• Breakfast Cereals
• Coffee/Tea
• Confectionery
• Diary
• Ice Cream
• Frozen Foods
• Pet foods
• Various snacks

As with some food companies, or pharma companies, by the way, we calculate here using how many billion brands (as in over 1B CHF in sales per year) the company has. Nestlé has twenty-nine brands that give the company sales over 1B CHF per year.

These include brands like Nespresso, Nescafé, Kit-Kat, Smarties, Nesquik, Stouffer's, Vittel, and Maggi.

Company growth came among other periods during the first world war and again in the second world war. One of its main growth drivers have been early versions of condensed milk and infant formula products, and as a result of this (and other things), Nestlé isn't exactly a "clean" company, involved and charged with offenses including but not limited to marketing of formula as an alternative to natural breastfeeding (including bribing doctors), child labor/slavery/trafficking for cocoa production, and the specifics of production and promotion of bottled water. Smaller things like anti-union activities, bottling operations, and poisoning water, chocolate price-fixing, debt repayments, forced labor in fishing, and other things.

In essence, Nestlé is doing what it needs to do to stay on top as an international company - by means that are or should be illegal. I invest in defense contractors and weapons manufacturers, in oil/energy, and companies that don't have the cleanest environmental histories. However, none of those were ever on my blacklist. When I began investing, Nestlé was - and this company does require a strong stomach to invest in. It's wrong to call the company completely corrupt - but the instances are too frequent for it to be anything but a pattern, to my mind.

Let's leave that behind and focus more on what we have to take a stance on here.

The company sells, as I mentioned, in the entire world - and it sells a lot of things, with no particular heavy exposure to any one segment (except maybe beverages).

(Source: Nestlé)

The last fiscal of 2020 was another great year for Nestlé. With COVID-19 and people eating in, it's no wonder that the company saw some great results overall, with a third consecutive year of improved growth and margins.

(Source: Nestlé)

Furthermore, the company outlook is excellent. Nestlé expects sustained organic growth, continued improved margins and operating profit improvements, good continued capital allocation with near-zero debt, and continued value creation for shareholders. Nestlé is very conscious about its image - or the lack of positivity in that image, and focus on ESG, Climate, sustainable packaging, and overall sustainability is high. Billions are being invested towards this, and the company tries to highlight this, focusing on how sustainability is key to every decision and strategy.

(Source: Nestlé)

The company's roadmap includes continued profitable growth and excessive cost control. What's more, the company has already proved it can deliver this, as having done so in 2016-2020. 2021-2025 is expected to bring similar results, cost improvements of around 0.7%.

(Source: Nestlé)

The company's segments are structured in a geographical manner - in different "Zones", known as AMS, EMENA. AOA, as well as the individual segments of Nespresso and Nestle Health Science. All of these categories and segments are growing for 2020.

This is what Nestlé does. It in part dominates the global food market through brands that most everyone knows.

(Source: Mysteps.co.in)

Some, like Nesquik, are more local - something I grew up with, but some people may not even know. Others, like Maggi or Kitkat, are so global they can be found quite literally in every nation on earth.

This, together with the company's ridiculously strong fundamentals makes for a very appealing set of company basics - and a set of what the company "does".

Nestlé researches, manufactures, and sells food. There isn't much better that you could invest in than I see it.

Let's see how the results have been.

Nestlé - How has the company been doing?

We have the recent set of 9-month results for Nestlé. As it should surprise no one, Nestlé has continued to perform very well - in fact outperforming both expectations. The company experienced increased pricing, broad-based market share growth in most geographies and categories, and sees continued momentum in retail sales.

M&A's continue and Nestlé focus on ESG-heavy companies, The Bountiful Company is the latest one of these. Nestlé is also doing some major restructuring, creating Zone North America and Greater China to simplify company structure and increase the focus on these geographies.

Sales growth is solid.

(Source: Nestlé)

Some of the price increases are to offset inflation, others are for optimizing the company product mix. Looking at the various company zones, every single zone and segment is seeing positive organic growth. The biggest numbers are in Nestlé Health Science and Nespresso, both growing double digits, and the very least in terms of growth is 4.1% organic on a 9-month YoY.

The only negative in the entire company was the nutrition business, which is suffering due to the global reduced birth rate due to COVID-19 as well as sales declines in China.

The company is also focusing on its latest ESG/sustainable pitch - regenerative agri.

The move towards regenerative agriculture requires patient effort on the ground around the world in order to find local solutions that work for a specific environment and agricultural product. In our approach to this, we are firmly committed to the notion of what we call a just transition. It will not be sufficient to just raise the environmental specifications of the commodities we buy, this will be unfair to many farmers who do not have the know-how or the resources to comply. We provide first-hand technical assistance and help to arrange financial support.

While there are many benefits related to regenerative agriculture, the concept of restoring soil health stands out. Improved soil health stores more carbon in the ground, improves water retention and water management and supports biodiversity.

(Source: Nestlé, 9M21 Earnings Call, Ulf Schneider)

Furthermore, the company confirmed its 2021 guidance. Nestlé is now expecting 6-7% of more growth, even on top of the 2020 results. It reflects continued strong performance and the prospects already given by the company. The future upsides will further add to this.

However, there are some clouds on the horizon. While the company will report higher growth in terms of sales, this comes with a lock-step increase in inflation, keeping down company profit margin. Nestlé themselves have cautioned against translating sales growth into margin growth here, because costs are rising faster than Nestlé can roll forward pricing at this point. The company has been cautioning for this since the 1Q21 - and the situation hasn't changed or improved since, unfortunately - it's in fact getting worse.

So, sales growth - but not necessarily margin growth or earnings growth as a result of this, at least not at the same pace.

Let's look at where this puts the current valuation.

Nestlé - What is the valuation?

As the article title suggests, we're in the realm of excessive overvaluation for Nestlé. At this time, we're trading at a blended P/E of 26.5X, which is around 5X above the company's 5-10-year average.

Let's begin by clearly saying that Nestle has massively outperformed the market over the past 20 years. A $10,000 investment back in -01 would have brought no less than 650% total RoR, or churning it into $74,000+ or around 10% per year, outperforming the overall broader indexes like the S&P500.

However, during that time, the company has also been quite volatile at times.

(Source: F.A.S.T Graphs)

As you can see, there have also been some earnings slumps - though it's important to say that Nestle hasn't been at a P/E of 15X or below for almost 10 years at this point. Given what the company is, that's quite understandable. How we're supposed to invest in Nestlé is quite tricky, because even on a 22-23X forward premium, today's valuation precludes any sort of positive forward RoR above 4% per year. A 3.7% annual RoR including divvies is all you get even if you're willing to take the risk here.

(Source: F.A.S.T Graphs)

You can probably imagine what would happen on a 15X forward P/E - around -22% RoR in 4 years if the company drops to 15X. At best, and if the company stays above 24X P/E, you can have an annual RoR of around 6-7% - below the index, but if you really want beyond-safe investments, I believe Nestlé is certainly one of them.

What's more, current expectations are for the company to increase the dividend, at least for the ADR, and in a big way, going from $2.52 to around $3.1/share for 2021, which would push the yield up quite a bit.

It doesn't change the fact that the company is massively overvalued here, as conservative as it might be. Even normally exuberant analysts are somewhat careful with Nestlé here, giving the company only a slight 5% undervaluation to an average target. And as usual, there's a slight tendency to overvaluation during positive upcycles here if not as bad as some companies are being overvalued by exuberant analysts.

(Source: Tikr.com)

In the end, I don't consider the company's future targets or positive expectations to justify the pressure from inflation and margins that we're bound to see. I don't see how even with the positives that might happen, that this valuation is justifed. Anything above 20X P/E, the company's very long-term 20X P/E target, is too much for the company.

Based on this target, I would "BUY" the ADR NSRGY at just below $95-$100, but wouldn't touch it above. Because its an ADR and a Swiss stock, easy options don't exist here - it's the ADR/common or nothing. I can't trade the swiss common, so I'll "BUY" the ADR at the right price.

But that price is not now.

Thesis

The thesis for Nestle is a rather simple one.

• The company is one of the most fundamentally appealing food companies on the face of the earth - provided you can stomach a whole host of ethics and human rights violations over the past 60 years.
• Low debt, a decent dividend, and a decent upside at the right price makes this a "BUY" at below 20X average P/E.
• At current valuation, the justification for buying the company at this sort of price is extremely slim, or for me, nonexistent. I consider it a "HOLD", and dangerous to buy given the high risk of negative or insignificant returns.

Remember, I'm all about:

1. Buying undervalued - even if that undervaluation is slight, and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn't go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

This process has allowed me to triple my net worth in less than 7 years - and that is all I intend to continue doing (even if I don't expect the same rates of return for the next few years).

If you're interested in significantly higher returns, then I'm probably not for you. If you're interested in 10% yields, I'm not for you either.

If you however want to grow your money conservatively, safely and harvest well-covered dividends while doing so, and your timeframe is 5-30 years, then I might be for you.

Nestlé is currently a "HOLD" based on valuation.

Thank you for reading.