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What a week it turned out to be. On Monday, I wrote about AutoNation and highlighted its move into selling ABS (Asset Backed Securities). Mid-week, subprime auto lender TriColor went kaput; it filed for Chapter 7 bankruptcy. Now, why is that important? A whole host of banks were left holding the bag with all the ABS from TriColor.
So, now we know people are swimming naked, the question remains as to who all.
The knee-jerk reaction was to sell CVNA. I was like, fair enough, but they retain minimal risk on the books beyond the 5% they are required to under the law for the ABS they sell, as I had highlighted in my CVNA article earlier this year in May. What I was chuckling about was that AutoNation was moving higher.
Apart from the sarcastic jokes about CVNA, I wanted to highlight two things about AutoNation in my article on Monday:
The demand for its first ABS sale in Q2 was humongous as it was 5x oversubscribed.
It is betting heavily on ABS sales to enhance shareholder returns and plans to retain higher risk than normal.
Who reads the earnings call transcripts anyway these days, right? Moving along.
As a fair disclosure, I would like to highlight that I had no prior information about what was cooking at TriCollor or in the subprime Auto Loan ABS market. I knew things were flying off the shelf like hot cakes, and that there was huge demand for the paper. After the TriColor bankruptcy news hit the wire, somebody who knows this space provided some insight on X while responding to a conversation I was having with a friend.
First element (there are others)
That's from Wells Fargo Q2: Auto Loans
"Revenues down 15% due to lower balances and loan spread compression.
First Wells fargo is Buffet Bank. They have a strong credit culture. When they lower the exposure (lower balances) it's because they understand credit and they don't like the space.
Second Loan spread compression for auto loans means that the difference between what the bank earns on auto loans (the interest rate charged to borrowers) and what it pays to fund those loans (its cost of capital, e.g., deposit rates, wholesale funding) is shrinking.
So in short: loan spread compression = profitability squeeze on auto lending. So the smart bankers (WFC) stay out.
What do the Wild Cat banking NDFIs guys do? They go into oversubscription in ABS and super bizarro spreads Then Gundlach said "We haven't see those types of spread tightness/madness and overbidding in Jan 2025 since 2006".
So basically the bad bidders (the "wild cats" NDFIs / Bonds Funds / Private credit which 60% write their own "mark to model" NAV and basically write their own bonuses according to last year BIS annual report)?
They bid too much at very tight spreads and the good bankers retrench saying "you guys are nuts" I am out. When you see the wild cats going nuts and the good bankers retrenching you go "huho".
That's the first element there are many other data points.
Now, all we have to do is pick who we want to go after, set up the trade, and manage it. Personally, I would go after AutoNation as their basic thesis of future shareholder returns has just been blown out of the water. Even though they are not full-on subprime, every ABS sale will now be under scrutiny or shunned. And then, who wants to deal with the CVNA circus?
Note
It just hit the wire that TriColor is alleging fraud at dealerships.
Spicey!!!
On another note, before I get to Tyson Foods (TSN), I got WING (WingStop) again. Last year, in September, I warned about WING, and it was down 50% by March. I was much more severe on WING in August this time around. Down 20% since then, with more to go.
Tyson Foods
Consumers are continuing to prioritize protein.
Tyson Foods (TSN) requires little introduction; they sell meat—beef, pork, and chicken—and an associated assortment of prepared foods.
TSN Key Metrics
Profile | Valuation |
Margins | Financial Health Capital Efficiency |
Now, before I get into further details, you have seen me pick on statements made by the management during earnings calls, ranging from differential disclosure to basic fudging of numbers to make things seem better than they are. Now consider the following:
… We had shared in previous 10 Ks and 10 Qs that our cushion for the fair value exceeding carrying value was less than 10% for that business. …
This statement was made during the most recent earnings call as part of an answer to an analyst’s question. Do you want me to translate that nicey-nicey corporate speak? Curt won me over with that line.
That said, here is the deal. Remember my work on SMCI from May 2024? Apart from all the accounting stuff and analysis, everything else that was revealed later was—guess what?—in the 10K, and it is still there in the most recent 10K. Yes, all the shenanigans that Hindenburg went on to reveal. It doesn’t take much time, and you owe it to yourself. This is how I explain it to people: how many hours did you have to work to earn the money you are going to invest in the company? And you don’t have a few hours to read the 10K or 10Q?
Moving along.
Note
TSN’s financial year ends on September 30. Hence, for TSN, this is Q4 from a fiscal perspective.
Income Statement
Let’s take a peek at the recent quarterly income statement highlights:
TSN: Quarterly Income Statement Highlights
Woah!!! What happened in fiscal Q2 (Mar-25 column)?
enterprise sales ... includes a reduction of $343 million or 2.6% related to a legal contingency accrual primarily reflected in pork. Excluding this, sales would have grown as expected year over year.
That is fair and was disclosed previously. So if we add the number back in, the revenue growth for fiscal Q3 would have been 1.9%.
A few other observations:
Gross Margin improved considerably compared to last year due to operational efficiencies.
TSN took a one-time Goodwill Impairment of $343 million due to:
During the third quarter of fiscal 2025, our Beef reporting unit experienced lower than anticipated supply of market-ready cattle and an increased carrying amount primarily associated with higher cattle costs. Additionally, our latest forecasts now indicate the timing of the recovery of market-ready cattle associated with the anticipated cattle herd rebuilding will be longer than previously estimated.
Source: Fiscal Q2 2025 TSN 10Q Page 6 (PDF Page 8)
So, that explains all the distorted numbers in the income statement. But what is going on with the Beef segment, which accounts for approximately 40% of TSN’s revenue? Why have the prices been rising so much? There are a multitude of factors:
Border closure with Mexico.
Threat from New World Screwworm.
Tariffs on Brazil.
Cattle supply tightness.
Given that, what is the current situation with cattle supplies as per TSN?
But cattle supplies are tightening, creating a compression spread, as was noted in the remarks earlier. We anticipate that. We think that heifer retention has begun.
For example, if you look at beef cow slaughter is down 16% from January to June. And so that’s an early indicator of heifer retention beginning. In terms of beyond that, we think herd rebuilding will begin in earnest in 2026. And we think that will through the next couple of years after that, that’s when we will get back. Let’s call it 2028 is when we see herd rebuild and seeing the benefit from that and holding back heifers for breeding purposes.
First off, your prices ain’t stabilizing any time soon, but apart from some complaining on social media, people are not complaining with their pocketbooks.
We’re seeing historic highs relative to beef and beef demand. The consumer has been extremely resilient in their demand for beef.
Secondly, let me explain the whole heifer thing. Heifers are young cows that have either never given birth or have had one calf. These cows are retained for breeding purposes to grow the herd. Due to recent supply constraints, heifers were also being culled. That is what Donnie was trying to explain: herd rebuilding and the 2028 timeline.
Tariffs
I am so getting sick of talking about tariffs. But it is what it is. I agree with the following quote 200% and can somebody please send this to the armchair generals at CNBC?
Tariff impacts both on the export side and the import side obviously have a significant amount of timing associated with it. So when the tariffs actually are imposed relative to the time that product actually hits shelf, there’s a significant delay, especially with supply chain challenges from some of our imports on lean beef coming from the Southern Hemisphere as well. So I’m not sure we’ve actually seen the opportunity for that to hit retail yet. And then we are in a dynamic market where we’ve seen significant inflation in interim prices, specifically on fat trim within beef as well that’s creating some changes in the dynamics from that beef complex as well.
So we’ll continue to monitor that and watch that as timing really hits the point we’ll hit really POS.
Other Quick Observations
TSN grew retail-branded volumes across prepared foods and chicken (Nielsen).
TSN grew volume and dollar share in aggregate across its top 10 categories.
Growth in profitability versus last year was driven by prepared foods, chicken, and pork segments.
The beef segment was the soft spot due to the reasons highlighted above.
Cash Flow Statement and Balance Sheet
Nothing untoward in the Cash Flow Statement. All good. The Balance Sheet is fine.
The bright spot? TSN’s leverage peaked at 4.1x two years ago. This forced them to put on hold the share repurchase program. Now the leverage is 2.1x, and they have restarted the share repurchase program, albeit in small amounts. Below 2x leverage, they can reinstate and go full-on.
… we did start to restart our share repurchase program although at a very small pace. The first time we restarted that since 2023.
Guidance
We are raising our overall guidance based on our year to date performance and a solid outlook for the fourth quarter. We now anticipate full year sales to be up 2% to 3% year over year. We are raising the midpoint and narrowing the range for total company adjusted operating income, which we expect to be between $2.1 billion to $2.3 billion delivering significant growth versus last year across the entire range. We still anticipate interest expense of approximately $375 million and a tax rate of around 25%. We remain disciplined in managing cash with CAPEX expected to be at or below $1 billion and free cash flow in the range of $1 billion to $1.3 billion.
Verdict
We can see that TSN has been able to manage well through the challenges in the beef segment and has grown market share. The valuation metrics, like P/E, are distorted. A quick back-of-the-envelope calculation shows a ~8 P/E if we were to add back one-time charges. Varies based on what tax rate one uses: effective or the forward. The effective tax rate for fiscal Q3 2025 was 64.5% due to state taxes and the increased impact of the goodwill charge. As per guidance, the effective tax rate is expected to come to around 25%.
Deep value play? EV/Sales is 0.6. Earnings Yield plus Dividend is 6.9% after adjustments are made, hence, much higher than the 10-Year yield. So, what is the faire value? Let’s do a quick Value of Equity calculation:
Value of Equity = (Annual Dividend) / (Cost of Equity - Growth Rate)
Dividends this Year = 2.00 per share * 357 million shares = $714 million
Cost of Equity = 7.3%
Growth Rate = 2.8% (10Yr CAGR - historical)
Value of Equity = $15,867 million or $15.9 billion
If I were to use the 4.9% (5Yr CAGR - historical) as the Growth Rate, Value of Equity = $83.4B
Current Market Cap = $19.61B.
Oh, the assumptions!!! Given what we have discussed, I would buy the dips, make it a part of the long-term portfolio, and hold for at least 5+ years. And you thought I only do bearish stuff? For instance, I gave you guys RDDT in April. It is up 174% since then. No, that is not a typo. RDDT is indeed up 174% since I published my article on them.
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