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Corvex Wins Seat on Ralcorp Board

In August of this year, Corvex Management filed a 13D with the SEC declaring ownership of 2.8 million shares (and, therefore, 5.1% of the shares outstanding) of Ralcorp Holdings, Inc. (NYSE:RAH). Ralcorp primarily manufactures food for private label brands following the spinout earlier this year of many of its brands such as Post and Honey Bunches of Oats in Post Holdings Inc (NYSE:POST). Corvex’s recent involvement had been driven by calculations that the company could be more valuable if it took on new strategic initiatives or sold itself to a larger food company. Corvex is managed by Keith Meister, who previously worked for well-known activist investor Carl Icahn; it was launched in 2011. See Corvex’s 13F portfolio from the end of June.

Meister has now joined the Board of Directors for Ralcorp Holdings, Inc., reflecting a small victory for the fund and demonstrating that the company is at least not going to be hostile in listening to his opinions. Corvex has also added about 80,000 shares to its stake in the company since September 25th, according to an amended 13D it filed in the first week of October.

In the third quarter of Ralcorp’s fiscal year, which ended in June, Ralcorp’s revenues were up 11% and earnings were up 5% compared to the same period in 2011. However, some of this revenue growth, particularly that in frozen bakery products, came from acquisitions rather than organic growth (and we mean that in the business sense). Based on analyst expectations for next year, the forward P/E is 19. That seems like a high figure to us for a midcap ($4 billion market capitalization) consumer staples company.

Jonathon Jacobson

Corvex actually wasn’t one of the top hedge fund holders of the stock at the end of June, as the fund did not scale up its position until the third quarter. Highfields Capital Management, run by Jonathan Jacobson, owned 1.9 million shares of the company compared to the 600,000 Corvex owned at that time (see more stock picks from Highfields Capital Management). John Paulson also liked Ralcorp Holdings, Inc., with Paulson & Co reporting 1.5 million shares in its portfolio at the close of the second quarter (find more stocks Paulson owned).

Post joins General Mills, Inc. (NYSE:GIS) and Kellogg Company (NYSE:K) as companies operating in very similar businesses to Ralcorp; we would also consider PepsiCo, Inc. (NYSE:PEP) as a peer based on its foods division, which includes brands such as Doritos and Quaker. Post, just as with Ralcorp is obviously difficult to value on a trailing basis due to the spinout. General Mills and Kellogg trade at 16 times trailing earnings with PepsiCo, likely boosted by its beverage brands, carrying a P/E of 19. On a forward basis, Ralcorp is the highest-valued of these peers, as it has a higher forward P/E than the other four companies which are clustered between 14 and 17. Yes, the private label foods company trades at a forward earnings premium relative to PepsiCo. As might be expected, sales at all four of these peers are fairly steady. In their most recent quarter, none showed more than a 6% change in revenues compared a year earlier. Bottom-line numbers, however, were in some cases quite different. Kellogg and PepsiCo underperformed, with earnings falling at a double-digit rate, while General Mills saw considerably higher net income.

This isn’t enough for us to call Ralcorp fairly valued relative to its peers; it trades at a higher multiple than strong brands, including some which are involved in more attractive businesses. The only explanation for this, in our mind, is that particularly with Corvex’s involvement investors are hoping Ralcorp becomes a takeover target. As a result, we would definitely not be short the company, though we also would not want to speculate on an acquisition taking place.

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