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Kellogg (K) Gains on Emerging Market Strength, Costs Flare Up

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Kellogg Company (K - Free Report) has been benefiting from strength in the emerging markets as well as its robust brands. These upsides, along with revival in the away-from-home channel and efficient price/mix, aided the company in second-quarter 2021, which was otherwise affected by tough comparisons with the year-ago period’s initial pandemic-induced demand spike and higher costs. Like many other food companies, Kellogg is encountering inflated cost challenges. Apart from these, deceleration in the at-home demand is a concern.  Let’s dive deeper.

Emerging Market Strength

On its second-quarter 2021 earnings call, management said that Kellogg’s emerging market business continued to see fast growth despite the tough business conditions. During the quarter, the company witnessed robust growth in Asia, Russia, Latin America and Africa. Management stated that the emerging markets form more than 20% of the company’s net sales and will likely be a significant driver for a long time. These markets offer strong long-term growth potential for packaged food, given the rising population and growing middle classes in the regions. The company is focused on expanding ots scale in the emerging markets, by using capacities like data and analytics, innovation and e-commerce.

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Robust Brand Portfolio

Kellogg boasts a solid product portfolio and brand identity in both cereals and snacks. Its portfolio consists of strong brands, such as Pringles, RXBAR, Bear Naked, Cheez-It, Rice Krispies Treats, among many others. The company’s frozen foods brands like Morningstar Farms and Eggo have also been displaying strength. Kellogg is dedicated toward enhancing its portfolio through adding more products under the existing brands, innovation and acquisitions.  The company has also been focused on investing in brand-building and marketing efforts.

Cost Challenges

Kellogg is encountering disruptions related to the tight supply of materials, freight and labor as well as the associated cost inflation. Apart from these, costs related to COVID-19 and mix shift toward the emerging markets weighed on its second-quarter gross margin. Management, on its earnings call, stated that it expects industry-wide supply-chain headwinds as well as elevated cost inflation in the second half of 2021. It expects gross margin to be more under pressure in the second half of 2021 than the first, due to the prevailing tepid operating and cost landscape. Management predicts the gross margin in 2021 to come in below the 2019 levels.

A Look at Q2 & Ahead

During the second quarter, net sales of $3,555 million advanced nearly 3% year on year and surpassed the consensus mark of $3,418 million as well. Net sales were backed by favorable currency movements. Kellogg continued to register a balance of sturdy top-line increase, consumption growth, profitability and cash-flow generation on a two-year basis. The company witnessed strength in the cereal, noodles and snacks categories. Though net sales advanced year over year, the at-home demand growth rate decelerated in the cereals and frozen categories as consumer mobility is returning. Management expects continued deceleration in the at-home demand during the third and fourth quarters of 2021. That said, the away from home demand is picking up.

Organic sales (excluding currency movements) remained flat year over year during the second quarter. The company lapped the year-ago period’s major rise in at-home demand in developed regions. This was compensated by the away-from-home channel revival; better price/mix and solid momentum in the emerging markets.  The price/mix improvement was backed by the company’s revenue management efforts, which were implemented across all four regions. Thanks to the recently-witnessed business momentum, organic sales growth in 2021 is now estimated to be flat to 1% year over year compared with the previously-guided view of nearly flat. The updated view suggests a two-year compound annual increase of almost 3%.

That said, management reiterated the operating profit and bottom-line guidance for 2021. The adjusted operating profit is still expected to decline roughly 1-2% at cc. Adjusted earnings per share growth (at cc) is envisioned in the range of decline 2% to increase 1%.

Shares of this Zacks Rank #3 (Hold) company have rallied 3.7% in the past six months against the industry’s decline of 3.3%.

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The Zacks #1 (Strong Buy) Ranked J&J Snack Foods’ (JJSF - Free Report) bottom line has outpaced the Zacks Consensus Estimate by a wide margin in the preceding four quarters. You can see the complete list of today’s Zacks #1 Rank stocks here.

Medifast, Inc. (MED - Free Report) , currently carrying a Zacks Rank #2 (Buy), has a trailing four-quarter earnings surprise of 16%, on average.

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