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On Jan 24, we maintained a Neutral recommendation on Kellogg Company (K - Analyst Report), following its third quarter results.

Why the Neutral Recommendation?

Kellogg’s third quarter 2012 earnings of 86 cents per share beat the Zacks Consensus Estimate by 6.2% and prior-year quarter earnings by 7.5%. Robust organic sales growth performance offset the headwinds from last month’s product recall to deliver the earnings beat. Revenue rose 2.8% organically to $3.7 billion, boosted by the addition of Pringles, bought from Procter & Gamble (PG - Analyst Report) in Jun 2012, and improving revenue trends in North America.  The overall results were in line with management’s expectations.

While Kellogg lowered its full year 2012 organic operating profit outlook due to headwinds from the product recall, it maintained its organic sales growth guidance.

Kellogg will report its fourth quarter and full year 2012 results early next month. For 2012, Kellogg maintained its organic net sales growth guidance in a band of 2%–3%. Internal operating profit for 2012 is expected to decline in the range of 4%–6%, higher than prior expectations of a 2%–4% fall. Gross margins, including Pringles and product recall costs are expected to be a tad below 150 basis points. Reported earnings per share are expected to range between $3.18 and $3.30 in fiscal 2012, including the impact of the Pringles acquisition and the product recall costs.

The Zacks Consensus Estimate stands at 65 cents for the quarter and $3.35 for the full year. Estimates are mostly showing an upward trend ahead of the results. In fact this cereals and snack maker has beaten the Zacks Consensus Estimates in the past four straight quarters with an average earnings surprise of 4.27%.

Overall, we are optimistic about Kellogg’s solid brand positioning, its geographic diversity and cost-saving efforts, especially its supply-chain initiatives. Moreover, we are encouraged by the growth potential, diversification and international presence that the Pringles deal provides.

However, its legacy cereals business has remained sluggish since the past few quarters. Though the latter showed some improvement in the third quarter, we expect to see a more broad based and sustained growth. Further, Kellogg’s European business has consistently recorded both sales and operating profit declines as the region continues to face difficult economic conditions and competitive activity. Despite seeing some early signs of improvement, mainly in U.K., management is entering 2013 while remaining cautious on the segment due to difficult operating conditions in southern Europe. These factors keep us on the sidelines.

Other Stocks to Consider

Kellogg carries a Zacks Rank #2 (Buy). Other stocks in the food industry that are currently performing well and have a bright outlook include B&G Foods, Inc. (BGS - Snapshot Report) – Zacks Rank #1 (Strong Buy) and ConAgra Foods, Inc. (CAG - Analyst Report) -  Zacks Rank #2 (Buy).

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