Friday, March 06, 2009

Bumpy Ride

The dramatic and abrupt shift to a new pricing paradigm caught Darling International, Inc. (DAR: NYSE) in a whipsaw in the final quarter of 2008, eroding revenue, trimming profit margins and slashing economic viability of intangible assets. Darling, a recycler of food by-products, reported $148.5 million in sales in the fourth quarter 2008 bringing total revenue for the year to $807.5 million. The Company reported an operating loss of $19.5 million after taking a $15.9 million charge for impaired goodwill. Excluding the charge, we estimate the operating loss was $3.6 million. The goodwill charge related to a single unit that is facing a reduction in processing volumes due to the loss of raw materials supplies from two meat processing plants.

Management’s comments during the fourth quarter 2008 earnings conference call provided some encouragement for the rationalization of pricing and volumes in the food by-products industry after a particularly tumultuous year-end. According, to Darling CEO John Muse, an inverse collapse in commodities prices led to a systematic shut down in demand and in particular a massive disruption in international trade for food by-products. Muse suggested that the availability of some credit after the first of the year there has been some normalization in demand. The realignment of prices throughout the entire food system appears to be unfolding in a more orderly fashion. Foreign buyers such as Mexico and China are returning to the market.

We continue to rate the stock Buy for long-term investors. We reset our price target to $6.75 based on a downward revision in our earnings estimate for 2009.

Darling has hit a bump in the road. However, we do not believe anything or anyone has fallen out of the cart. In our view, the stock is still attractive for long-term portfolios, but trading opportunities may not develop in DAR shares until greater certainty returns to the U.S. equity markets.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein. Crystal Equity Research has a Buy rating on DAR shares.

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