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We maintain a Neutral rating on Kraft Foods Inc. following the appraisal of second quarter 2012 results.
Kraft Foods’ second quarter 2012 earnings of 68 cents beat the Zacks Consensus Estimate by 3% and the prior-year quarter earnings by 9.7%. The top-line performance of the company was weak.
This weakness was offset by margin expansion, which eventually lifted the quarter’s earnings. Top line declined 4.3%, mainly due to currency fluctuations and the shift of Easter-related shipments to the first quarter.
Despite the soft second quarter, Kraft reaffirmed its constant currency revenue and earnings guidance. Kraft Foods expects organic revenue to grow approximately 5% in 2012 and operating earnings to increase to at least the lower end of its long-term guidance of 9-11% on a constant currency basis.
Read our full report at Kraft Foods Tops EPS; Sales Lag
Kraft Foods has some dominant positions in some high-growth food categories, and fast-growing markets. Among the 80 brands in its portfolio, 12 Kraft products generate revenues in excess of $1 billion. These core brands, called Power Brands, are significantly driving company’s organic growth.
Kraft’s brand-building and advertising investments in core brands are winning customers for the company around the world. These initiatives have enabled Kraft to enjoy more pricing power and improve product positioning against lower-priced private label brands.
The company has been able to successfully implement price increases despite rising commodity costs and advertising spends, while also maintaining positive volume growth and is gaining market share.
The company has expanded into key developing markets, such as China, Brazil, India, Mexico, Russia and Southeast Asia, encouraged by the high-growth nature of these countries. In 2011, the developing market was the strongest performing segment for the company and is proving to be the key growth driver in 2012.
Moreover, the acquisition of Cadbury in 2010 placed Kraft in higher growth geographies and categories. Cadbury has opened new sales channels for the company through its vast distribution networks in developing markets such as India, Brazil and Mexico.
Kraft is due to spin off its North American grocery business into a separate independent company on October 1. The decision is expected to help the company expand its global presence, besides giving investors a chance to bet on a snacks business that is growing fast in the emerging markets, or opt for the stable dividends offered by a slower-growing general grocery business that includes Oscar Mayer meat and Kraft cheese.
However, we remain concerned about rising input costs, currency headwinds, and slow economic recovery. The rising prices of commodities have limited Kraft Foods’ pricing policies, thereby squeezing its profitability. Overall, we expect commodity costs to continue to be volatile and increase overall in 2012.
Further, though the overall economy is recovering, the process is relatively slow. Slow job growth, high interest rates and still tightened credit availability continue to hurt costumer discretionary spending.