Tyson Foods - Attractive Despite Legal Issues

Subsequent to posting my December 17th Tyson Foods, Inc. (TSN) article in which I disclosed that I had initiated a position, TSN disclosed that an internal review determined that one of its beef suppliers made 'misrepresentations regarding the number of cattle the supplier purchased on behalf of TSN's beef segment.'

I stand by my decision to invest in TSN despite this recent revelation and the unresolved poultry price fixing charges.

Tyson Foods, Inc. (TSN) is one of the world’s largest food companies, producing ~20% of the beef, pork and chicken in the U.S. and it is the largest meat processor in the U.S.. It services restaurants and schools and sells brands like Jimmy Dean and Sara Lee in supermarkets.

TSN and its top two rivals, JBS SA (JBSAY) and Cargill Inc. (PRIVATE), control  ~66.6% of America’s beef, and the large bulk of it gets processed in a few dozen giant plants. Pork and chicken are similarly dominated.

In fact, the largest producers have such a stranglehold on output that it leaves the supply chain with few remedies when even just a handful of plants are down. In April 2020, for example, there were ~12 closures at U.S. slaughter plants because of coronavirus outbreaks among employees who are jammed together on processing lines.

The processed meat industry has undergone a significant transformation over the past few decades with a significant portion of this consolidation having come about in just the last few decades. In fact, the U.S. Department of Agriculture has indicated the number of slaughtering plants has plummeted ~70% since 1967; a huge chunk of that consolidation came in just the past few decades. This rapid consolidation has allowed meatpackers to operate on huge economies of scale and to run lines at lightning speed.

I viewed the above as strengths when I decided to initiate a position in TSN. So, despite the legal issues noted above, my underlying thesis for investing in TSN has not changed.

Misappropriation Of Funds By Beef Supplier

On December 21st, after I posted this article, TSN announced that it is undertaking an internal review with assistance of outside advisors, relating to one of its cattle suppliers. It has determined that this supplier made misrepresentations regarding the number of cattle the supplier purchased on behalf of the TSN's Beef segment; details can be found in this Form 8-K.

For the fiscal year ending October 3, 2020, TSN's live cattle inventory was overstated by $285 million. In addition, the cumulative four-year inventory was overstated by $645 million. While these numbers are certainly sizable, we need to put in perspective that this one cattle supplier represented ~2% of the cattle supplied to TSN each year from 2017 - 2020. In addition, TSN's year ending inventory is typically a little over $4B, and TSN is a company which generates in excess of $40B in annual revenue. In essence, the losses do not have a material impact on TSN's financial results for the years examined and this is stated in the Form 8-K.

TSN has also stated in the filing that its investigation found 'no evidence that the company benefitted from the supplier’s unlawful conduct or that anyone at the company took steps to alter financial statements to hide the transactions resulting from the supplier’s unlawful acts.'

Furthermore, TSN:

  1. expects to pursue restitution for losses to date;
  2. anticipates that, despite the corrections to previously issued financial statements, general trends in growth and operating profit metrics will remain unaltered, operating cash flow will be largely unaffected, liquidity will not change and it will remain in compliance with all debt covenants.

Poultry Price-Fixing Charges

On April 26, 2019, TSN was served with a grand jury subpoena from the Antitrust Division of the Department of Justice concerning a criminal antitrust investigation into the broiler chicken industry. This was disclosed in TSN's 2020 10-K under Item 3. Legal Proceedings found on page 20 of 120.

TSN also provided a statement on June 10, 2020 on this matter.

In my opinion, the poultry price fixing issue is old news and has already been reflected in TSN's share price.

Secondly,  TSN has been cooperating with legal authorities so I envision this will be taken into consideration when the level of penalties are determined.

Thirdly, TSN is not the only defendant. In fact, Pilgrim's Pride (PPC) (another defendant) announced in October 2020 that it had entered into a plea agreement with the United States Department of Justice Antitrust Division. In the plea agreement, PPC and the Antitrust Division agreed to a fine of ~$110.5 million for restraint of competition that affected three contracts for the sale of chicken products to one customer in the United States.

Legal issues happen in the business world all the time and I do not expect TSN's fine will be its death knell. If anything, I suspect other defendants will suffer more than TSN. PPC, for example, has a ~$4.7B market cap versus TSN's ~$23.6B market cap. Furthermore, Moody's rates PPC's long-debt debt Ba3 which is 4 notches below that of TSN (Baa2). Sanderson Farms (SAFM), another defendant, only has a ~$2.9B market cap; neither Moodys' or S&P Global rate SAFM.

Final Thoughts

I initiated a position in TSN because:

  • it is profitable;
  • it generates strong free cash flow;
  • the valuation is attractive;
  • is a formidable force in the processed meat industry;
  • 'insiders' effectively control the company;
  • it has significantly improved its financial position over the years. Moody's rated TSN's long-term debt B2, the middle tier of the highly speculative non-investment grade category from November 2008 to September 2010. This debt is now rated Baa2 which is the middle tier of the lower medium grade investment grade category. This is a 7 notch improvement!!!

I certainly do not expect explosive growth from TSN. That, however, was not my rationale for investing in the company. What I expect from TSN is a steadily increasing stream of reliable dividend income and moderate capital gains.

Stay safe. Stay focused.

I wish you much success on your journey to financial freedom!

Note: Thanks for reading this article. Please send any feedback, corrections, or questions to [email protected].

Disclaimer: I have no knowledge of your individual circumstances and am not providing individualized advice or recommendations. I encourage you not to make any investment decision without conducting your own research and due diligence. You should also consult your financial advisor about your specific situation.

Disclosure: I am long TSN.

I wrote this article myself and it expresses my own opinions. I am not receiving compensation for it and have no business relationship with any company whose stock is mentioned in this article.