Will Big Payout Milk Dean Foods Dry?

Investors cheered the dairy producer's debt-financed $15-a-share special dividend, but ratings agencies soured on the company

Dean Foods (DF) has been growing since the 1990s by using its cash to gobble up other companies. But now the dairy company said March 2 that it plans to raise $4.8 billion of debt and pay around $2 billion back to shareholders in a one-time special cash dividend payable on April 2. The Dallas company says it will now change its focus to growth in the coming years from internal improvements in its operations.

Dean plans to distribute $15.00 per share to shareholders on March 27. "Over the past several years we've consolidated the industry and developed a leading market position through significant strategic acquisitions and investments in building out our branded portfolio. With this platform in place, we are now entering the next phase of our evolution," CEO Gregg Engles said in a press release March 2. "Over the next few years, we will be focused primarily on leveraging our scale to drive internal growth through maximizing productivity and efficiencies across our business."

Equity investors were pleased at the thought of that hefty dividend. They bid up the stock more than 3% to $46.77 per share in early afternoon trading on the New York Stock Exchange.

"We still look for longer-term benefits from improved operational efficiency and growth from the organic milk business," Standard & Poor's equity analyst Thomas Graves said in a research note. Given the $15 dividend, some of which may be taxable, Graves hiked his 12-month target price on the stock to $48 from $45 per share. "But with higher interest expense related to the special dividend, we are lowering our '07 EPS estimate to $1.77, from $2.37." (S&P, like BusinessWeek.com, is owned by The McGraw-Hill Companies.)

JPMorgan Securities, Bank of America Securities LLC, and Wachovia Capital Markets are providing the $4.8 billion financing package. The debt will consist of a $1.5 billion 5-year senior secured revolving credit facility, a $1.5 billion 5-year senior secured term loan, and a $1.8 billion 7-year senior secured term loan The company will also be replacing its existing receivables facility with a new secured $500 million facility.

Debt players booed the move, which adds to Dean's burden and related costs, increasing the likelihood of missed payments. Moody's Investors Service said it is likely to lower its opinion of Dean's debt risk by two notches to Ba3. "Moody's views the dividend as a shift to a more aggressive financial policy, while at the same time recognizing the company's ability to delever back to current levels in approximately a three-year time frame. Moody's notes that any significant increase in acquisition activity could slow the pace of recovery," the ratings agency said in a note March 1.

Citing similar reasons, Standard & Poor's Ratings Services downgraded the company's credit ratings to "BB" from "BB+." The ratings agency said it expects Dean Foods to take advantage of consolidating trends in its industry, but the level of acquisitions will be lower than they have been historically. (S&P, like BusinessWeek.com, is owned by The McGraw-Hill Companies.)

CEO Engles founded Suiza Foods and began an aggressive acquisition spree in 1993, rolling up about 40 regional dairy producers before merging with Dean Foods in 2001, according to Morningstar. Dean acquired Horizon Organic Dairy, which makes milk, egg and juice products, on Jan. 5, 2004, for example. In recent years the company has also been unloading and streamlining businesses. In August, 2005, the company sold Marie's Dressings and Dean's Dips brands to Ventura Foods, for example.

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