Toast of the Towns

Canada Bread offers rising fortunes in baked goods

We first featured Canada Bread as a Stock to Study in July/Aug. 1988 issue, and did so again in Nov./Dec. 1993, In both, the company was known as Corporate Foods Limited. Between the first two features the stock's price rose from $7 to $15, providing owners with a 16% compound rate of price appreciation. It has since traded as high as $61 (May 2006) for annual gains averaging 12%.

CANADA Bread Co. Ltd., a leading producer and distributor of breads and other baked goods, serves grocery stores, restaurant, and institutional markets. The company is the largest bakery products manufacturer in Canada, and has expanded into the United States and the U.K. through acquisitions. Currently, the company employs 7,300 people; including more than 6,000 at 30 facilities across Canada.
The company markets its products under different consumer brand names. Dempster's, the national brand, is strongest in Ontario. Strong regional brands include McGavin's in the West, POM in Quebec, and Ben's in Atlantic Canada.

Canada Bread is headquartered in Toronto. Its stock is thinly traded because Maple Leaf Foods (see growth chart on following page) owns 87.5% of the company's shares.

Historical Growth

Revenues

Chart 1 indicates that during the entire study period, Canada Bread's revenues grew at an average compound rate of about 13%. Since 2000, average growth accelerated to about 21%, largely as the result of acquisitions in 2001-02. Those expansions added the Multi-Marques brands and facilities in Eastern Canada (2001), and the U.S./U.K. bakery assets of parent Maple Leaf Foods (2002). In all, the acquisitions added 20 bakeries, 3,000 employees, and 10,000 customers.
Recently, revenue growth has slowed significantly, to about 2% in fiscal 2005 (ending December), for total revenues of $1.3 billion. First-quarter 2006 revenues declined by about 5%.

EPS

Growth in EPS (earnings per share before discontinued, extraordinary, and special items) of 12% has generally tracked revenue growth throughout the study period. However, EPS growth since 1999, at 30%, has significantly outpaced revenues. Following the 2001-02 acquisitions, growth averaged about 23%, with EPS up 19% in 2005. EPS for the first quarter of 2006 were up by 28%.

Successful consolidation of operations following acquisitions can produce superior earnings growth even while revenue growth slows.

Reasons for Historical Growth

Important Products

Canada Bread's revenues are derived principally from freshly baked and frozen products.

Fresh Bakery Products (71% of 2005 revenues vs. 70% in 2003)

The company is the Canadian leader in the fresh-bakery market. It manufactures and distributes a wide range of bakery products, including sliced breads, bagels, sweet goods (cakes and pies), and flatbreads, such as tortillas and pita sandwich pouches.

Fresh products have a limited shelf life (two to three weeks total for most breads), and extensive shipping can impair quality and appearance. Accordingly, production facilities must be located close to local consumer markets. For Canada Bread, that requires a network of 22 bakeries across the country.

In addition, the company maintains a large fleet of trucks for direct-to-storedelivery to most grocery accounts. Together, facilities and transportation represent high fixed costs. Another important cost arises from the return of unsold goods that have gone stale.

Frozen Bakery Products (29% of 2005 revenues vs. 30% in 2003)

This segment involves the production and distribution of various partially baked frozen breads and rolls. These products are "par-baked" - which involves baking breads to within 90% of completion, and then flash-freezing and shipping to both grocery stores and restaurants.

The par-baked market is one of the fastest-growing segments of the bakery industry, as it offers the opportunity for in-store bakeries, fast-food outlets, and cafeterias to produce small quantities of hot breads in a matter of minutes.

As well, the use of frozen products permits consistent product quality, lower product wastage, and reduced in-store labour costs, as higher-paid bakers are no longer required to prepare breads "from scratch.'

Important Markets

An estimated 70% of revenues originate in Canada from the sale of both fresh and frozen products. Only frozen products are sold in the United States. Canada Bread is the largest manufacturer of bagels in the U.K., where it also sells specialty breads.

Important Customers

Canada Bread is known to be a key Fresh Bakery supplier to major grocery chains, such as Sobey's, Safeway, Metro/A&P and large food-service operators across Canada. In the United States, Canada Bread primarily sells its frozen, par-baked products to sandwich shop chains and grocery stores.

Important Competitors

In Canada, Canada Bread faces another large, mainstream competitor in Weston Bakeries, owned by the same parent company as Loblaw's. Both companies compete vigorously in the fresh and parbaked categories nationally.