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Kraft Beats Q2 Earnings, Lags Rev

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Kraft Foods Group, Inc. reported mixed second-quarter 2013 results as its earnings outpaced the Zacks Consensus Estimate but revenues missed the same. Sales were significantly weak and margins also declined. The company also lowered its full year 2013 organic revenue guidance.

Kraft’s second-quarter 2013 adjusted earnings per share of 85 cents declined 22% year over year due to a weak top line, lower profits and high interest expense. Adjusted earnings, however, beat the Zacks Consensus Estimate of 67 cents by 26.9%.

Adjusted earnings excluded charges related to Kraft’s 2012-14 restructuring program which aims to aggressively reduce costs and improve efficiencies. Additionally, adjusted earnings also exclude gains related to post-employment benefit plans. Including these items, reported earnings of $1.38 improved 35.3% from prior-year quarter’s earnings of $1.02.

Kraft split from Mondelez International, Inc. (MDLZ - Free Report) last year and became an independent company. While Kraft took hold of the North American grocery business, Mondelez looks after the global snacks portfolio.

Revenue Discussion

Kraft’s second-quarter net revenue declined 1.1% year over year to $4.7 billion and also missed the Zacks Consensus Estimate of $4.826 billion.

Organic revenues (excluding the impact of currency and sales to Mondelez) also declined 1.2% due to lower volume and pricing, and headwinds from an early Easter and product pruning.

Volume/mix hurt revenues by 0.9 percentage points (pp), significantly worse than last quarter’s positive impact of 2.4 pp. The new company was also not much successful in raising prices with pricing declining 0.3 pp, same as in the first quarter. An early Easter (which moved sales to the first quarter from the second) took away between 0.5 pp and 1 pp of growth, while product pruning created headwinds of 1.0 pp.

Several of the company’s product categories witnessed softness in the quarter due to consumption weakness and increased competitive activity. Especially, the salad dressings, cold cuts, powdered beverages and ready-to-eat desserts categories declined in the quarter.

Management noted that though advertising and promotional spend is going up, Kraft is still behind many peers. This affected sales performance to an extent in the quarter. In the upcoming quarters, Kraft expects to step up its advertising investments in order to protect the market share of its biggest brands.

Adjusted operating income (excluding restructuring charges) declined almost 10% in the second quarter as strong productivity gains and cost savings were offset by difficult year-ago comparisons.

Segment Details

Kraft includes products in the beverages, cheese, refrigerated meals and grocery food categories. Most of the segments reported weaker growth than the first quarter.

The Beverage business’ revenues declined 3.2% (both reported and organic) to $753 million in the quarter largely due to lower coffee prices. Volume/mix grew 1.4 pp, much less than last quarter’s 7.3 pp gain. Pricing declined 4.6 pp due to lower green coffee costs and increased promotional activity. Product mix, however, improved in the quarter due to growth in on-demand coffee and liquid water enhancers.

The Cheese business’ revenues improved 5.0% (up 2.8% organically) to $945 million in the quarter driven by higher pricing, improved product mix and volume growth. Kraft gained share in the total cheese category driven by aggressive advertising.

Volume/mix grew 1.2 pp due to increased demand for Kraft natural cheeses and Velveeta cheese slices. Price improved 1.6 pp in the quarter.

Refrigerated Meals business’ revenues declined 0.7% (both reported and organic) to $897 million in the quarter as declines in volume/mix and headwinds from early Easter offset gains from higher prices. Volume/mix declined 2.8 pp while price added 2.1 pp to top line. Lunchables was up 10% due to innovation. However, softness in cold cuts and lower bacon volume due to early Easter pulled down the segment revenues.

The Grocery business’ revenues declined 6.4% (down 6.7% organically) to $1.14 billion as volume/mix declined 5.1 pp while pricing went down 1.6 pp. Brands like Velveeta dinners and Planters snack nuts gained from marketing investments and successful innovation. However, brands like JELL-O ready-to-eat desserts and Kraft salad dressings remained weak.

The International & Foodservice business’ revenues improved 1.3% (up 3.1% organically) to $1.0 billion due to volume/mix growth of 2.3 pp and pricing gain of 0.8 pp. The top line gained from strong performance of Kraft peanut butter, Kraft Singles cheeses, Philadelphia cream cheese and MiO liquid water enhancers in Canada.

Fiscal 2013 Outlook Maintained

The company lowered its previously provided organic revenue guidance for 2013. Organic revenues are now expected to be in line with or slightly lower than the North American food and beverage industry’s growth rate. Previously, Kraft expected organic revenues to be in line with or above the industry rate. The top-line guidance includes a negative impact of up to 1 pp from product pruning in North America.

For 2013, reported earnings are expected to be about $3.40 (including restructuring costs), up from prior expectations of $2.75 per share to include the gain related to the pension plans.

Restructuring costs are expected to be approximately $325 million, higher than prior expectations of $300 million. The increased restructuring costs are expected to be offset by accelerated cost savings and a lower-than-previously-expected tax rate.

Other Stocks to Consider

Kraft carries a Zacks Rank #3 (Hold). Overall, we are encouraged by Kraft’s aggressive cost reduction and efficiency-improvement initiatives which provide more cash to invest in stronger innovation, brand building and marketing initiatives. Kraft also aims to maximize cash flows which will be used to pay strong and competitive dividends.

However, though Kraft’s cost-saving efforts look encouraging, it needs to show sustained improvement in the top line.

Some food companies that are currently doing well and are worth considering include B&G Foods Inc. (BGS - Free Report) and Dole Food Company Inc. . Both the companies carry a Zacks Rank #1 (Strong Buy).

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Mondelez International, Inc. (MDLZ) - free report >>

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