Sort & Cull

Don't you hate it when a company gets too efficient?

Such a thought probably crossed the mind of a Smithfield manager or two this week when a major stockholder publicly suggested that it might be best for everyone (or at least Wall Street brokers) if the great "Beast from the East" was financially fabricated into three separate companies.

Continental Grain Co. sent a letter to the pork company's board Thursday urging it to consider strategic changes including breaking up the company. Continental, which along with several related parties owns about 6% of Smithfield, believes that the meat giant should analyze whether to split into three independent companies to increase value for shareholders.

This brash suggestion to carve the pork king up like a Thanksgiving turkey must have seemed especially galling to insiders who had just served up what many market watchers thought to be a heaping helping of corporate profits.

Smithfield reported this week that fiscal third-quarter earnings rose 3.2% as improved sales of packaged meats helped to mitigate the pork producer's declining fresh pork sales. For the quarter ending Jan. 27, Smithfield reported a profit of $81.5 million, or 58 cents a share, up from $79 million, or 49 cents a share, a year earlier.

Total pork sales edged up 0.3%, reflecting a 4.5% decline in fresh pork sales and a 4% rise for packaged meats. For those familiar with how the pork biz works, it doesn't take much to read between the lines: Whatever Smithfield lost through live hogs and fresh pork, it managed to more than offset thanks to profit centers higher up in the production chain.

Such hedging infrastructure (e.g., the pre-cooked bacon unit benefits from finishing floor losses) is typically seen as the genius behind the business model of vertical integration. And few would deny that Smithfield has played a major role in writing the book on vertical integration.

Without being blind to the downside of integration for smaller producers and processors, I have to admire the efficiencies Smithfield has championed over the decades, and what those efficiencies have meant in terms of advancing the presences of U.S. pork throughout the world market.

Yet stock market investors understandably look at other sets of numbers. Some big shooters are now very critical of what they see as Smithfield's underperformance. For example, they're quick to point out that from Aug. 31, 2006 (i.e., when Joe Luter turned the reins over to Larry Pope) through March 1 of this year, Smithfield's stock has declined 26%. Over the same period, including dividend payments, Tyson Foods shares are up 70% and Hormel Foods stock is up 131%.

"Six years is sufficient time for a management team to provide real results to its shareholders. We haven't seen those results and believe a new strategy with some new individuals is warranted to bring the company back to the high returns that Smithfield has produced in the past and is capable of producing going forward," Continental wrote in a letter to the board.

I get the feeling that the money-managers at Continental couldn't care less about internal synergies, the future of the U.S. pork industry, or the wisdom of gestalt philosophy.

Indeed, as far as they can tell, the sum of Smithfield's parts may be significantly greater than the integrated whole.

For more John Harrington comments, visit http://www.feelofthemarket.com/…

(AG)

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