Cal-Maine Foods, Inc. (CALM)

Even though I heard Cramer give this stock a buy, I didn’t look at it until I noticed it was also a Magic Formula pick. After running it through my valuation spreadsheets, the stock still looked good, so I gave it a recommendation. The analysis presented is based on a current price of $23.78.

I have one major problem choosing this stock for my real portfolio, and that is it doesn’t have consistently growing earnings. In fact, in the past 8 years, CALM reported negative earnings in 3 of those years. Additionally, most of the earnings growth has occurred in the last year. For these reasons I regard the stock as speculative. Nonetheless, the compounded annual growth (CAGR) has been 56%.

The company has $105 M in debt, but has maintained a current ratio (current assets/current liabilities) of about 2 for the last 5 years and currently has about $26 M in cash. To further evaluate financial safety, I looked at three general indicators. For this stock, two are well within safe boundaries, while the third is on a cautionary borderline. The Altman Z is 5.27 and is the one that is cautionary; below 1.8 is risky, above 3 is the safe range. The Piotroski F is 3; 2 or below indicates caution, while 8 or 9 indicates that the stock is expected to rise within the next year. The Sloan accrual is -1.4; 5 or higher is high risk, while -5 or lower is excellent.

I use more than one valuation method to gauge intrinsic value. The first three are standards in the valuation literature; all of the standards provide a substantial margin of safety (MOS). The estimate based on Graham’s formula was $229 (90% MOS). The Earnings Power Value (value of the firm) was estimated, on a per share bases, to be $525 (95% MOS). The Discounted Cash Flow estimate valued the stock at $100 (76% MOS).

The last two were based on a spreadsheet found on the AAII website; these are designed to mimic Buffett’s valuation methodology. One is based on projecting EPS growth 10 years into the future based on past EPS growth; I discount the resulting valuation to reflect the price at which the stock will realize a compounded earnings (including dividends when applicable) return of 15%. Based on this method the target purchase needs to be below $73(this is the maximum target price to assure a compounded return of 15%).

The second is based on estimating EPS growth through the sustainable growth rate. The per-share projected book value is estimated by taking the previous year’s book value, adding EPS and subtracting dividends (when applicable). The projected EPS is estimated by multiplying the projected book value by the average Return on Equity, and the projected dividend is estimated by multiplying the projected EPS by the average payout ratio. I then discount the resulting valuation to reflect the price at which the stock will realize a compounded earnings return of 15%. Based on this method the target purchase price needs to be below $58 (this is the maximum target price to assure a compounded return of 15%).

CALM rates to be a buy based on fundamentals, indicators of safety, and valuation, but regard the earnings pattern to be a matter of concern.