On Sep 29, we issued an updated research report on Kellogg Company (K).
On Jul 31, the global snacks and cereal company reported lower profits and revenues in the second quarter of 2014 as cereal sales in developed markets remained challenging. Second-earnings of $1.02 per share were in line with the Zacks Consensus Estimate quarter and remained flat year over year as currency benefits offset weak revenues and profits. Revenues declined 0.8% once again due to weak sales in cereals and snacks in the U.S. Profits were hurt by weak volumes and higher brand building investments.
Moreover, management lowered the full-year outlook after witnessing a poor run in the first half of the year as cereal sales in developed markets remained challenging. The financial outlook for the year is far below the long-term targets — suggesting that 2014 could prove to be worse than 2013. We believe it is difficult for the company to achieve growth this year and possibly even in the next given a combination of weak sales trends and reinvestments in the business.
Kellogg’s mainstay U.S. cereal business, accounting for 40–45% of sales, has been performing poorly since 2012 due to sluggish category growth. Lower demand for cereals due to competitive pressures from alternatives such as yogurt, eggs, bread and peanut butter are hurting category growth.
Though Kellogg is trying to reinvigorate this segment through innovation and aggressive marketing campaigns, these activities are yet to show results. More recently, the company witnessed cereal category weakness in other developed countries like the U.K., Canada and Australia.
However, Kellogg has strong fundamentals with its solid brand positioning, geographic diversity and significant investments in innovation, marketing and supply-chain initiatives. We are also encouraged by growth potential, diversification and international presence that the Pringles deal provides. Pringles, acquired by Kellogg in Jun 2012 from The Procter & Gamble Company (PG), has performed quite well. Sales and profit in the business have exceeded management’s expectations in every quarter since the transaction closed.
Nevertheless, our expectations for sales acceleration are muted as the cereal category continues to contract. Moreover, even though the new cost savings plan, Project K, will free up funds for brand building, innovation and overall growth, it would take a couple of years before it delivers substantial results.
Another company that is being pressured by its cereals business is General Mills, Inc. (GIS). The company’s cereal sales declined 2% in fiscal 2013 and remained flat in 2014 due to weak category growth. Other food companies suffering due to top-line pressure are Kraft Foods Group Inc. (KRFT) and Mondelez International.
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