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Conagra (NYSE: CAG) is a large food maker that has to deal with the everyday ups and downs in consumer buying habits. It is doing that today, noting that there are some unique lingering effects from the coronavirus pandemic. However, the really important goal for 2024 is likely to be found on the company’s balance sheet, where debt reduction is a key focus.

Conagra is doing what is necessary day to day

Conagra’s sales ebb and flow over time. Right now things are ebbing, but it is a bit of an unusual situation.

During the company’s fiscal first quarter 2024 earnings call, CEO Sean Connolly noted that, “…over the summer was, it was this paradoxical combination of selective splurging and broad-based belt tightening.” Basically, costumes were looking to spend on things like travel and in order to do that they needed to save elsewhere. Food was one area that felt the pinch, as consumers stretched their budgets.

Image source: Getty Images.

The food maker chose not to fight its customers on this front, expecting this behavior to reverse through the rest of the year. In anticipation of this, management is planning to up its advertising spending in the back half of the fiscal year. The CEO further noted that, “Sometimes, you know, when you run in businesses like this and you’re servicing consumers, you take what the field gives you.”

While that’s not unreasonable at all from a business perspective, there’s another trend that investors have to worry about — rising interest rates.

For Conagra increased interest costs were highlighted as drag on its financial results in the quarter. Indeed, interest expenses rose nearly 10% year over year in the period. That requires a different kind of business focus.

Conagra is honing in on debt reduction

During the conference call, CFO Dave Marberger explained that, “At the end of the quarter, our net leverage ratio was 3.55 times, down from the end of fiscal ’23. We will continue to prioritize reducing our debt and lowering our net leverage ratio in fiscal ’24.”

During the quarter, the company’s paid down $130 million worth of short-term debt, with plans to continue to favor debt reduction over things like stock buybacks when it comes to using cash.

CAG Times Interest Earned (TTM) data by YCharts

When you look back at the company’s debt levels, this seems like a good decision. The big spike in long-term debt came about because of the company’s acquisition of Pinnacle Brands, a $10.9 billion purchase. As the company was working to integrate that company into its own operations, it ended up having to deal with the coronavirus pandemic. Like most food makers, Conagra was simply trying to muddle through a difficult and uncertain period.

Today, however, as the world is moving past coronavirus restrictions and interest rates are on the rise, debt is a more pressing issue. Note in the chart below that the company’s debt to EBITDA (earnings before interest, taxes, depreciation, and amortization) level is still notably above the pre-merger figures. And its ability to cover its interest costs is less robust, with its times interest earned ratio below where it was prior to the Pinnacle Brands acquisition.

CAG Financial Debt to EBITDA (TTM) data by YCharts

Debt reduction is so important, in fact, that management stated it will take priority over acquisitions over the near term. Given the increase in rates, and the impact that has on interest expense, the focus on the balance sheet makes sense.

Doing what needs to be done

The big takeaway here is that Conagra is executing on two fronts right now. It is operating its day-to-day business in a manner that fits the current market, with plans in place for later in the year when management expects demand to be stronger.

But, at the same time, the company is also ensuring that it has a strong financial foundation as it also faces changes in the debt markets. Right now the company’s balance sheet plans look like they could be every bit as important as its performance on the income statement.

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Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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