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Saputo Inc. $39 – Toronto symbol SAP

SAPUTO INC. $39 (Toronto symbol SAP; Aggressive Growth Portfolio, Consumer sector; Shares outstanding: 103.2 million; Market cap: $4.0 billion; SI Rating: Average) is Canada’s largest producer of dairy products. Major brands include Saputo, Armstrong, Stella and Dairyland. The company is also the fifth-largest cheese producer in the United States, and the third-largest dairy company in Argentina. Saputo’s Canadian businesses supply 80% of its profit.

Revenue fell from $3.5 billion in 2002 (fiscal years ended March 31) to $3.4 billion in 2003, but climbed steadily to $4.0 billion in 2006. Profits rose from $1.54 a share (total $160.2 million) in 2002 to $2.20 a share ($232.1 million) in 2005. A writedown cut profits in 2006 to $1.82 a share ($192.1 million).

Much of Saputo’s recent growth has come from acquisitions. That’s because the North American dairy business is a mature, slow-growing industry, and acquisitions are a faster and at times cheaper way to expand market share than internal growth.

Saputo has a strong history of quickly absorbing new businesses and cutting costs. This cuts the risk that usually comes with a growth-through-acquisition strategy.

In April 2006, the company expanded to Europe with the $6.9 million acquisition of a specialty cheese producer in Germany. This is Saputo’s first operation in Europe, and should help set the stage for future acquisitions there.

More U.S. acquisitions on the way

Saputo will probably make more acquisitions in the U.S. in the next few years. Falling cheese prices have hurt the profitability of many producers, particularly smaller dairies. So far, Saputo’s strong brands and low-cost operations have helped shield it from lower prices. It will probably take advantage of the situation and try to pick up some smaller competitors at bargain prices.

The company is also using acquisitions to strengthen its baked goods division, which makes snack cakes and tarts. In July 2006, it paid $12.2 million for a Quebec-based fresh cookie producer. Although this division accounts for just 5% of Saputo’s revenue, deals like this improve its profit margins in baked goods.

Saputo’s strong balance sheet gives it plenty of flexibility to expand. Long-term debt of $256.4 million is just 17% of shareholders’ equity. It also has $120.8 million ($1.17 a share) in cash.

Saputo’s stock has gained about 20% in the past year, and now trades at 18.5 times the $2.11 a share it should earn in fiscal 2007. The $0.80 dividend yields 2.1%.

Saputo is a buy.

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