Dean Foods Falling After Morgan Stanley Downgrade, Margin Peak Alert

• Dean Foods Co DF shares are down 9 percent year-to-date, but are still trading closer to the high end of their 52-week range of $14.56 - $19.74.
• Morgan Stanley’s Matthew Grainger downgraded the rating on the company to Underweight, while reducing the price target from $19 to $17.
• The company’s margins are already at peak levels and could moderate next year, Grainger said.

Dean's profits recovered in 2015, driven by a 30 percent y/y decline in milk prices. The company has also benefited from “favorable pricing dynamics which have enabled operating profit per gallon to exceed both investor and internal expectations,” analyst Matthew Grainger said.

Although this has been a positive surprise, Dean’s the benefit could moderate in 2016, with continued contraction of the pricing gap between branded and private label milk. Grainger added that the company could lose share in its more profitable branded business if price gaps remain well-above historical levels.

“DF's price realization should also moderate as the company laps temporary mix benefits from competitor disruptions in ice cream,” the analyst wrote.

Dean’s current margins appear to be very near peak levels, and there is risk to the downside. Grainger enumerated the risks as:

1. Lower rate realization due to an ongoing narrowing of price gaps
2. A Class I outlook which suggests stable but not improving dairy prices in 2016
3. The lapping of temporary benefits such as 2015’s ice cream share gains
4. A lack of visibility into whether DF can deliver additional cost savings to the bottom line in an environment where volumes are still declining, although at a lower rate