Lifeway Foods: On A Significant Growth Track With Expanding Profit Margins (NASDAQ:LWAY)

Investment Thesis

Lifeway Foods, Inc. (NASDAQ:LWAY) is an American health food company headquartered in Morton Grove, Illinois. In this thesis, I will analyze its third-quarter results and its future growth prospects. I will also be analyzing its valuation at current price levels and its upside potential. I believe it has managed to grow revenues at a significant pace while expanding its gross and net profit margins, which is quite impressive, especially in this high inflationary market and hence, I assign a Buy rating for LWAY.

Company Overview

LWAY is a leading player in the dairy and probiotics industry, with a primary focus on the production and distribution of kefir and other cultured dairy products. It is renowned for its signature product, kefir, a fermented milk drink known for its probiotic content. The company offers a diverse range of kefir products, including traditional, low-fat, organic, and flavored variations. In addition to kefir, Lifeway also produces a variety of other cultured dairy products, such as probiotic yogurt, farmer cheese, and other specialty items. Its products are distributed through multiple channels, including grocery stores, nutritional food retailers, and online platforms.

Q3 FY2023 Result

LWAY reported a strong third-quarter result, beating the market revenue and EPS by 3.5% and 44%, respectively. As per my analysis, the increased demand resulting in higher sales volumes of its drinkable kefir product primarily drove the revenue growth. The company did increase prices across product segments at the end of Q4 FY22, which added to the revenue increase, but majorly, the revenues experienced organic revenue growth. What impressed me the most was the fact that it managed to cut down on direct as well as operating costs in this high inflationary market by improving operational efficiency, including transportation systems and administrative expenses.

It reported total revenue of $40.9 million, up 7.2% compared to $38.1 million in the same quarter last year. As I mentioned earlier, the increased volume of drinkable kefir boosted the revenues. The other products, including cheese and yogurt, have also experienced high demand. The gross profit for the quarter witnessed a massive 48% increase to $11.14 million compared to $7.58 million in the same quarter last year. I believe a favorable milk input cost and a decline in transportation expenses resulted in this increase. The gross profit margin for the quarter stood at 27.1% compared to 19.9% in the corresponding quarter last year. It reported a net profit of $3.4 million, up stellar 247% compared to $0.98 million in the same quarter last year, reflecting a net profit margin of 8.34%. I think the reduction in administrative expenses owing to structural changes in the business segments helped the company improve efficiency, resulting in increased profit margins. The dilute EPS for the quarter stood at $0.23, compared to $0.06 in Q3 FY22.

Now, let us have a look at its balance sheet. As of September 30, 2023, it reported cash and cash equivalent of $12.6 million against long-term debt of $4.5 million. One important point I would like to highlight is that the cash balance increased from $4.4 million in December 2022 to $12.6 million, which is a big positive for the company. The inventory levels remain flat at around $9.3 million despite an increase in sales, which I believe reflects better inventory turnout. I think it has a healthy balance sheet with significant room to raise funds in the future to boost growth without putting material stress on its balance sheet.

Overall, the company managed to outperform in multiple parameters, including revenue growth and improved margins. With an increasing demand for healthy products, LWAY’s positioning as a healthy alternative to other dairy products could help it grow at a fast pace in the coming years. It has not provided any guidance for FY23, but the market expects FY23 revenues to be in the range of $158-$162 million; comparing this to FY22 revenues of $141 million, it represents a 15% y-o-y revenue growth. I believe it should achieve this revenue target and even exceed it, given the growth trajectory it has maintained over the last few quarters.

Key Risk Factor

High Competition: LWAY’s major focus currently is on kefir drinkable products, contributing $33 million of the total revenue of $40.9 million. However, the company is still small in size, and if it has to grow its market share in other categories, it will have to spend heavily on advertisements to differentiate its products from the competitors. The competition that it will be facing in the dairy food and beverage industry will be from giants like Nestle and Danone, which are very hard to compete against, given the technological advancement and resources they have. The positive part is that LWAY has managed to position itself as one of the main brands in kefir, which in itself has a huge market potential, with some reports suggesting kefir will have a global market size of $2.4 billion by 2030. But when it comes to other product categories, it will have to face significant competition, and this could result in increased costs impacting its profit margins.

Valuation

LWAY is currently trading at a share price of $12.77, a YTD increase of 127%. It has a market cap of $189 million. It is trading at a forward GAAP P/E multiple of 18.35x with an FY23 EPS estimate of $0.70. Comparing this to the sector P/E of 19.20x, I believe it is trading at a cheap valuation at current price levels, given that it is a company with a small size and significant growth potential. Its brand positioning, especially for the kefir products, could help it gain a sizable market share going forward, which gives me confidence that it could trade at a premium valuation. Even after a YTD increase of 127% in the stock price, I believe there’s still a lot of growth potential, and investors should utilize any dip in stock price to initiate a buying position in LWAY.

Conclusion

LWAY is on a significant growth trajectory with continued revenue growth and net profit expansion. Its flagship kefir drinkable brand has been experiencing strong demand. It has managed to keep its costs in control, helping it grow profits multifold y-o-y. It is trading at a comfortable valuation, leaving sizable room for solid stock price growth. Considering all the growth and risk factors, I assign a buy recommendation for LWAY.