Kraft Foods Group, Inc. reported dismal first-quarter 2014 results, missing the Zacks Consensus Estimate for revenues and only managing to meet the same for earnings. As anticipated, delayed Easter held back organic revenue growth which subsequently hurt profits as well.
The packaged food and beverage company’s first-quarter adjusted earnings per share of 78 cents were in line with the Zacks Consensus Estimate. Lower overhead costs, productivity savings and pricing gains were offset by weak volumes and higher advertising/marketing costs. Adjusted earnings, however, increased from year-ago quarter’s earnings of 66 cents per share (excluding asset impairment costs).
First-quarter 2014 adjusted earnings exclude the market-based impacts of post-employment benefit plans, hedging gains and asset impairment costs. Including these items, reported earnings of 85 cents improved 11.8% year over year.
Kraft Foods Group was spun off from Mondelez International Inc. (MDLZ - Analyst Report) into an independent company in Oct 2012, and consists of the North American grocery business of the old Kraft Foods.
Revenues Were Weak
Kraft’s first-quarter net revenue declined 3.3% year over year to $4.36 and missed the Zacks Consensus Estimate of $4.5 billion by 3.1%.
Organic revenues (excluding the impact of currency and sales to Mondelez) declined 2.4% as lower volume/mix offset better pricing.
Volume/mix hurt revenues by 2.8 percentage points (pp), significantly worse than last quarter’s 4 pp positive impact.
Volume/mix was hurt by about 3.0 pp from the shift in Easter timing to the second quarter this year. Also, a weak holiday sell-through left retailers with high inventories at the end of last quarter. As a result, they did not buy much in this quarter, in turn hurting Kraft’s first-quarter volumes.
Additionally, the North American food industry is facing headwinds from a weak job market and the recent cut in federal food assistance offered through the Supplemental Nutrition Assistance Program, formerly known as food stamps. Management had previously warned that slow improvement in the U.S. job market and reduction in federal food stamp benefits would hurt sales in the first quarter.
Moreover, several of the company’s product categories — salad dressings, powdered beverages and ready-to-eat desserts — have been soft since the past few quarters due to lower consumption and intense competition. Changes in consumer preferences, their shopping behavior and tough consumer spending environment are hurting retail sales. Shopper trips are going down, especially the large ones as consumers are still purchasing only what they need.
Pricing improved 0.4 pp in the quarter, much better than 8 pp decline in the last quarter, due to sharp increases in commodity costs. Kraft has already raised or announced price increase for around 45% of its product portfolio to cover the rising costs of ingredients. Management noted that they could temporarily lose some market share due to price increases.
Adjusted operating income (excluding market-based impacts to post-employment benefit plans, hedging gains and asset impairment charges) declined 7.5% in the quarter to $806 million as lower overhead costs, productivity savings and pricing gains were offset by weak volume/mix, increased commodity costs and higher marketing costs than last year.
Management noted that the cost of cheese, meat and grains have risen sharply in the near past. Higher input costs are putting a lot of pressure on margins. Further, management expects costs of cheese, meat and coffee to rise in the coming quarters.
All the business segments, except cheese, showed negative organic growth in the quarter due to shift of Easter-related shipments to the second quarter of this year and retail trade inventory reductions from year-end levels.
Beverage business revenues declined 5.3% (both reported and organic) to $674 million in the quarter as both volume/mix gains and pricing declined in the quarter. Volume/mix declined 1.2 pp. Pricing declined 4.1 pp due to lower commodity-driven pricing in coffee.
Cheese business revenues improved 2.0% (up 2.3% organically) to $1.0 billion in the quarter due to better pricing which offset lower volume/mix. Pricing improved 4.1 pp in the quarter to cover the rising cost of cheese. Volume/mix declined 1.8 pp due to shift in Easter shipments.
Refrigerated Meals business revenues declined 0.1% (both reported and organic) to $816 million driven by pricing decline of 0.1 pp and flat volumes. Gains from Lunchables were offset by weakness in cold cuts and bacon due to Easter shift and retailer inventory normalization.
Meals & Desserts business revenues declined 7.8% (both reported and organic) to $498 million mainly due to weak volume/mix. While volume/mix declined 9.1 pp in the quarter, pricing improved 1.3 pp. Easter shift, retailer inventory normalization and ongoing weakness for JELL-O ready-to-eat desserts hurt volumes in the quarter. Pricing increased due to rising commodity costs.
Enhancers & Snack Nuts business revenues declined 5.5% (down 5.1% organically) to $503 million mainly due to volume/mix decline of 3.5 pp. Pricing declined 1.6 pp.
Canada business revenues declined 11.4% (down 3.5% organically) to $427 million as both volume/mix and pricing declined in the quarter. While volume/mix declined 2.9 pp, pricing went down 0.6 pp.
Other Business revenues decreased 1.4% (both reported and organic) to $437 million due to volume/mix decline of 3.5 pp. Volumes declined due to divestures of certain product lines in the Foodservice business. However, pricing increased 2.1 pp which offset higher commodity costs.
Second Quarter Outlook
Though the company does not issue any specific annual guidance, management expects sales to pick up next quarter, gaining from the Easter shift. However, the entire 300 basis point headwind in the first quarter due to the Easter shift is unlikely to be recovered next quarter.
Kraft carries a Zacks Rank #4 (Sell). Kraft has been struggling with its top line ever since the split from Mondelez due to broader macro pressures.
Mondelez has also reported disappointing top-line results since the split. Slower global snacking category growth, volatility in some key markets and continuous slide in coffee prices have been weighing on Mondelez’s top line. Other food companies that have been struggling with the top line since the past few quarters are Kellogg Company (K - Analyst Report) and General Mills, Inc. (GIS - Analyst Report). Both these companies’ sales have been hurt by their choppy cereal business.