Sanderson Farms (SAFM)

Sanderson, a $700 million market-capitalization company out of Laurel, Miss., had a couple of tough years after Hurricane Katrina and the bird-flu scare. But as the low-cost producer, Sanderson has benefited nicely from strong chicken prices and its recent addition of production capacity to produce $3.88 a share in earnings in the fiscal year ended last October. Now, the Street is looking for an unchallenging $2.33 in earnings for fiscal 2008. Sanderson shares, now at 34.86, were around 32 a year ago, ran up to the mid-40s and then came tumbling back down. Twice recently, the stock has approached 30 and found eager buyers. Even using the consensus forecast, Sanderson at 14 times earnings is a good deal cheaper than peers TSN and PPC.

There is a clear inverse relationship that has emerged between corn pricing and the share prices of some of the poultry producers. Sanderson Farms (SAFM) is the one from this sector that seems to have an opportunity to move higher, once the realization that corn prices have a built-in ceiling. That ceiling is created by the need for corn prices to stay within reasonable limits in order to appease the ethanol producers and to maintain reasonable poultry prices.

Beyond the basic premise that corn prices affect the share price of SAFM, there is the fact that SAFM is showing a substantial increase in production and have returned from almost complete devastation after Hurricane Katrina. The plants are producing and demand is high on a global scale. Additionally, there is talk of a North Carolina plant that could increase production capacity.

Even if there is significant “food” inflation, the recent increase in corn prices is not sustainable. Cristoph Berg, a managing director at the German-based commodities research firm F.O. Licht., has stated that, “If corn prices are beyond a certain threshold, many [ethanol] plants will just stop producing.” That will cause a drop in demand for corn which would send prices down. As the above chart shows, there is a very close relationship to the price of SAFM shares and corn prices.

On the other hand, there is talk about a “dry” year and reduced corn fields that could have corn prices staying at these high levels and potentially increasing. That would create problems and it would appear that a pass through of some of the costs would mute sales. Even so, exports will continue to flourish as the dollar is weak and the world is hungry.