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  1. Home
  2. / Investing

2 Trade Ideas for McCormick Following its Magnificent Quarter

Why only sales growth of 7.7%? You expected more? There is a reason, a good reason.
By STEPHEN GUILFOYLE
Jun 25, 2020 | 10:00 AM EDT
Stocks quotes in this article: MKC

They went to the tape on Thursday morning. McCormick (MKC) , that is... perhaps the perfect "stay at home" stock for a consumer either under orders to remain inside or just plain too frightened to go outside. Unlike many "pandemic" stocks, this one could have legs. Legs? Why is that? Think about it. Even post-pandemic, once that sunny day arrives, the economy will most likely not return to 2019 levels for some time. Could be months, quarters, maybe even years. In a small economy, less people work and those who do, earn less. Preparing meals at home may just be the public health crisis that manages to stick the landing long after the very idea of eating out no longer scares the public.

McCormick reported second quarter adjusted EPS of $1.47 on revenue of $1.4 billion. Both were beats of consensus expectations. On improved gross margin of 41.4%, those numbers were good for year over year earnings growth of 26.7% on sales growth of 7.7%. A magnificent quarter, compared to anything else the firm had reported in recent years. Why only sales growth of 7.7%? You expected more? There is a reason, a good reason. Let's break it down.

The Break

This is interesting. McCormick operates two main business lines. The Consumer segment executed very well. This is where you find brand names such as French's Old Bay, Frank's Red Hot, Grill Mates, Zataran's, and Lawry's on your local grocer's shelves. This is also where one finds all of the herbs and spices sold under the firm's own brand name. This line saw sales increase 26% to $962.6 million, led by an increase of 36% in the Americas.

Now, the business known as Flavor Solutions did less well. The naming of this unit might be a little misleading because improving flavor is really what the entire firm is all about. That said, Flavor Solutions does a more commercial business. For obvious reasons, restaurants and food service clients were ordering far fewer supplies in Q2 2020. This line printed at $438.5 million, down 18.5%. This performance included a 2% negative impact due to currency exchange rates.

As of the quarter's end, operating income had improved greatly, and while the cost of goods sold also increased, the firm did manage to reduce interest expenses on a greater debt load, leaving the cash balance in a stronger position. The firm does expect demand for its consumer products to continue to increase. The firm, however also allows that the level of at home consumption in these times is difficult to predict, and that it can not predict possible resurgences of the Covid-19 pandemic and its potential for impact.

The Chart

What readers looking back, and some probably did benefit from, was the cup with handle pattern running from February through April that provided a $159 pivot. This led to that breakout that peaked at $180. This is where we come in, who may have been flat the name all this time. This is the top end of the current basing pattern, a flat base in place ever since that bottomed at $164. A lot of traffic down there. The 50 day SMA stands at $166, the 200 day SMA at $160. When I see that it tells me that if I can buy the name in the $160's, that at least I can plan to get out relatively painlessly should I be wrong. (The shares were trading around $174 ahead of the opening bell.)

Two Trade Ideas (Minimal lots. Options prices are guesstimates)

1) Love the name? Try a simple 'buy-write."

- Purchase 100 shares of MKC at or close to $174.

- Sell (write) one MKC August $185 call for a rough $4.

This knocks net basis down to $170, while capping profit over two months to 8.8%. Oh, and the firm is set to pay a $0.62 dividend on July 20) to shareholders of record as of July 6.

2) Not sure here? Play it both ways.

- Purchase one MKC $180 call for roughly $5.

- Sell (write) one MKC $165 put for around $4.

This permits the investor to wait on the sidelines. For a net outlay of perhaps $1, the investor, in theory, either winds up long 100 shares at a net basis of $181 in August with the shares on the run, or long 1000 shares at a net basis of $166 in August with the shares in decline. Third option? The shares continue on in this basing pattern and the investor ends up with no equity position, having lost a dollar in order to keep his or her options open.

(McCormick is a holding in Jim Cramer's Action Alerts PLUS member club. Want to be alerted before Jim Cramer buys or sells MKC? Learn more now.)

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At the time of publication, Stephen Guilfoyle had no position in the securities mentioned.

TAGS: Earnings | Investing | Options | Stocks | Technical Analysis | Trading | Food & Staples Retail | Coronavirus

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