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Mixed Results for General Mills

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General Mills’ (GIS - Free Report) first quarter fiscal 2013 adjusted earnings rose 3.1% year on year to 66 cents per share. The quarterly earnings also beat the Zacks Consensus Estimate of 62 cents and were better than management’s expectations that earnings would drop from year-ago levels. The upside was driven by recent acquisitions.

The earnings excluded the impact of mark-to-market effects, discrete tax items and restructuring costs. The company maintained its full year earnings outlook.

Revenues and Margins

Total revenue of the global consumer food company increased 5% year over year to $4.05 billion. Revenues mostly benefitted from the addition of Yoplait International in July 2011, Parampara Foods in India, Food Should Taste Good in the United States and Yoplait Ireland in the final quarter of fiscal 2012.

Price/mix pulled down revenues by 2 percentage points, while volume contributed 9 percentage points. Most of the volume growth was driven by acquisitions. Foreign exchange pulled down the top line by 2 percentage point.  Revenues marginally missed the Zacks Consensus Estimate of $4.07 billion.

Adjusted gross margin for the maker of Cheerios cereals and Betty Crocker dinner mixes declined 40 basis points (bps) to 38.2%. Adjusted operating margin also declined 10 bps to 17.5% in the quarter despite lower advertising expenses. Advertising and media expenses declined 7% year over year. However, we note that General Mills’ margins this quarter were better than the sequentially preceding quarter.

Segment Performance

U.S. Retail: Revenues from the U.S. Retail segment declined 1% year over year to $2.49 billion in the quarter as benefits from price/mix was partly offset by lower volumes. Price/mix added 1 percentage point to sales growth, which was offset by a 2 percentage point headwind from volumes. Volumes however improved slightly from the prior quarter as the company saw better volume and price trends in the core U.S. retail food categories.

Sales growth in the Snacks, Baking Products, Meals and Small Planet Foods divisions was offset by declines in the Big G cereals, Frozen Foods and Yoplait yogurt businesses. General Mills’ Yoplait yogurt business is presently struggling as increased sales prices in response to dairy cost inflation is reducing the competitiveness of its products.

The company plans to take steps to re-invigorate its yogurt business in the U.S. in fiscal 2013. Segment operating profit declined 2% to $575 million despite lower advertising costs.

International: Revenues in the International segment grew 27% year over year to $1.09 billion. Volume added 47 percentage points, mostly from acquisitions, while price/mix took away 11 percentage points from net sales growth.

Foreign exchange had an unfavorable 9 percentage point impact on net sales. Europe recorded the highest constant currency growth of 51%, followed by 28% in Canada, and 20% each in Latin America and Asia Pacific. Segment operating profit was up 56% to $126 million.

Bakeries and Foodservice: On a year-over-year basis, the Bakeries and Foodservice segment’s quarterly revenue declined 2% to $472.0 million. Volume gains of 2 percentage points were offset by price mix headwinds of 4 percentage points. Segment operating profit, however, improved 10% year over year to $68 million driven by lower wheat costs.

Guidance Retained

Management maintained its fiscal 2013 adjusted earnings guidance of approximately $2.65 a share. From the second quarter onwards, the company’s results are expected to benefit further from purchases of Brazilian food maker Yoki Alimentos (completed in August this year) and Yoplait Canada.

Our Recommendation

We currently have a Neutral recommendation on General Mills. The stock carries a Zacks #4 Rank (a short-term Sell rating).

We are encouraged by the company’s strong market share position in some fast growing food categories, its growing international presence, strategic acquisitions and focus on innovation and brand support. These growth initiatives combined with the cost saving efforts bode well for the company’s long-term growth.

However, we prefer to remain on the sidelines until the U.S. retail volumes improve, margin pressures (due to input cost headwinds) subside, and the macroeconomic environment recovers substantially.

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