Dean Foods Co (DF), Lifeway Foods, Inc. (LWAY): Finding Opportunity in the Milk Trade

Despite milk’s omni-presence in the majority of Americans’ refrigerators, the industry has been a tough place to do business with volatile commodity prices and low margins due to food retailers’ negotiating power. According to the USDA, per capita consumption of milk products continued to fall in 2012, although the organic and premium dairy segments enjoyed volume growth. The creamer category also enjoyed a pickup in sales, as caffeine-addicted consumers increasingly add non-dairy flavor supplements to their favorite beverages. So, in the current environment, which companies are worth a look?

Dean Foods Co (NYSE:DF) built a dairy empire over a twenty-year period that culminated in the completion of 40 acquisitions and an annual sales run rate of roughly $11 billion. The company’s size allowed it to create an efficient national production network and an unparalleled direct store distribution system. However, the acquisitions also led to significant debt and interest charges, which didn’t correlate well to an industry with volatile pricing and relatively low profitability.

In 2012, Dean Foods Co (NYSE:DF) strategically reformulated the company’s business mix, with a partial spinoff of its organicThe WhiteWave Foods Co (NYSE:WWAV) unit in October, as well as a sale of its Morningstar distribution unit in late December for $1.5 billion. The transactions allowed it to pay down debt and focus on improving operating performance in its core dairy business. The company’s financial performance was also aided by lower average commodity costs for milk, down approximately 9% for the period, which improved its pricing versus food retailers’ private label products.

In its latest fiscal year, Dean Foods Co (NYSE:DF)’ core dairy unit reported mixed financial results, with a 4.5% decline in segment revenues but an 18% increase in segment operating income. While product volumes and prices both declined at low single-digit rates, the company’s cost savings initiatives led to a much improved operating margin. Looking ahead, management sees the potential to further reduce its plant capacity by 10 to 15%, which should improve profitability while maintaining an efficient distribution system.

WhiteWave Foods’ ownership by Dean Foods Co (NYSE:DF) since 2002 allowed it to use the parent company’s contacts and distribution network to build a leading position in the organic segment. WhiteWave’s Silk and Horizon Organic product lines are currently the market leaders in the plant-based and premium dairy categories, respectively, far surpassing rivals’ market share. The company also has a strong position in the creamer market with its Land O’ Lakes and International Delight brands, capitalizing on a segment that is estimated to have grown roughly 9% over the past four years.