B&G Foods (BGS) was a popular stock because of its high yield. The company managed to grow the dividend sporadically from 2007 to 2019, after which it was kept constant. But B&G Foods struggled to increase earnings and free cash flow (FCF) sufficiently to cover the dividend payout and thus cut the dividend. Furthermore, the acquisitive company added debt to its balance sheet, making it more challenging to pay dividends because of higher interest payments. Lastly, high inflation and supply chain disruptions combined with lower volumes have caused earnings to fluctuate.

Consequently, the stock price dropped, and the yield soared into the double-digits, approaching 15%, a value typically associated as a warning to sell a dividend stock. The low dividend safety combined with poor operational performance resulted in a dividend cut.

Overview of B&G Foods

B&G Foods traces its history back more than 200 years. In its present form, the company was pieced together by investors, and the common stock started trading in 2007. B&G Foods sells shelf-stable and frozen foods through grocery stores and other retailers. The corporation owns dozens of brands in various market segments. Well-known brands include Dash, Crisco, Cream of What, Green Giant, Ortega, Polaner, and Spice Islands.

Total revenue was $2,056.3 million in the fiscal year 2022 and $2,111,6 million in the past twelve months.

BGS Dividend Cut Announcement

B&G Foods announced a dividend cut on November 9, 2022. The company reduced the quarterly dividend to $0.19 from $0.48 per share. At the time, the forward yield was 5.19%. Specifically, the firm’s CEO stated,

“The new dividend rate is sustainable in both the short- and long-term, consistent with the company’s desire to provide stockholders with an attractive and reliable return on their investment and consistent with our commitment to reduce our leverage. In large part because of the current inflationary environment and rising interest rates under our credit agreement, the prior dividend rate resulted in substantially all our excess cash being paid in dividends. The new dividend rate approved yesterday by our Board of Directors, while still paying a substantial portion of our excess cash to stockholders, provides for a significant portion of our excess cash to be retained in our business for debt repayment or other business needs that may arise.”

The announcement pointed to the company’s challenges with debt and inflation. Clearly, though, B&G Foods (BGS) is focusing on deleveraging moving forward and needed to cut the dividend.

Challenges

B&G Foods is facing significant challenges with leverage, interest coverage, and inflation affecting its ability to pay the dividend before it’s cut.

Leverage and Interest Coverage

The firm’s total debt has increased dramatically because of acquisitions. The chart below from Portfolio Insight* shows that total debt increased almost fourfold in the past decade from ~$638 million to ~$2.49 billion. Consequently, leverage has skyrocketed to over 8.6X while interest coverage has plunged to roughly 1.6X. These values are poor. Generally, investors like to see a leverage ratio less than 2.5X to 3.0X and interest coverage greater than 8X.

Source: Portfolio Insight*

Although the acquisitions caused revenue to rise over time, EBITDA has not grown to the same extent. Additionally, earnings and cash flow have fluctuated dramatically, trailing the revenue’s growth rate. 

Source: Portfolio Insight*

Source: Portfolio Insight*

The acquisitions have not proven accretive. The main issue is that volume growth is slightly negative, while price increases have yet to offset the loss of sales or inflationary trends entirely. Additionally, the acquisitions have not seemingly followed a coherent strategy. The company bought brands in various market segments that likely made distribution and access to shelf space more challenging.

Next, rising interest rates are causing an increase in interest expense because short-term rates are typically based on the LIBOR. For perspective, the 1-month LIBOR was roughly 0.10% a year ago, and now it is about 4.2%. According to the company for Q3 2022,

“Interest expense was $31.9 million for the third quarter of 2022 compared to $26.6 million in the third quarter of 2021. The primary driver for the increase in interest expense was an increase in our variable rate debt, which is currently tied to LIBOR. Interest expense was also modestly affected by increased borrowing during the quarter relative to last year.”

The company is attempting to address the problem by cutting the dividend to redirect cash flow and sell non-core brands. Along those lines, the Back to Nature brand is on sale, and B&G Foods is looking at other divestitures. However, this will take time to accomplish.

Inflation

Inflationary trends are negatively impacting most companies. Input costs like labor, commodities, packaging, warehousing, freight, etc., were rising at the fastest pace in four decades. But they are now moderating. According to the company,

“Total fiscal year 2022 input cost inflation impact remains at plus 20%. This is the first quarter in fiscal year 2022 that has not worsened. In addition, freight transportation and warehousing costs have moderated from last summer, although still significantly higher than last year.”

Much like other companies, B&G Foods has raised prices to counter inflationary pressures.

Dividend Safety

B&G Foods has only sporadically increased the dividend, but it was a high-yield stock attracting investors seeking income. The dividend yield was almost 15% before the cut, making it one of the highest-yielding stocks. Now, the forward dividend yield is approximately 5.85%, still an elevated value.

Before the cut, the payout and the dividend-to-FCF ratios were much too high. As a result, dividend safety was poor because neither earnings per share nor FCF covered the dividend. The payout ratio was usually above 80% each year, and, in some years, it was over 100%. These values are not sustainable. Similarly, FCF was not enough to cover the dividend in some years, which required $122 million to $130 million annually.

The dividend safety is much improved looking ahead into 2023 and beyond. First, the forward dividend rate is now $0.76, and the consensus 2023 earnings per share are $1.07. These values give a forward payout ratio of ~71%. Although this percentage is more than our target value of 65%, it is better than before the cut. Next, the dividend requires about $55 million ($0.76 per share x 72 million shares) in 2023, a much lower number. But past fluctuations of FCF make it difficult to predict whether this is a conservative value.

 The high leverage combined with inconsistent operational performance has resulted in relatively low credit ratings. B&G Foods has a B+/B2 highly speculative credit rating from S&P Global and Moody’s.

Overall, the dividend cut has placed the dividend on a better footing. But even now, the dividend is hardly safe. Investors must remember that another dividend cut is possible because of high leverage, inconsistent operational execution, and the balance sheet.

Final Thoughts on B&G Foods (BGS) Dividend Cut

Despite the dividend cut, the dividend the new one is not safe. Another reduction is possible based on our analysis and current risks. Granted, cash flow requirements are lower, but the balance sheet is still leveraged, and interest expense is rising. The firm is trying to sell brands to reduce debt. In addition, they are focusing on core business units of spices and seasonings, meals, frozen, and vegetables. But the reorganization and updated strategy will take time to implement. Overall, investors following a dividend growth strategy should probably look elsewhere.

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