Markets

Kraft Tries to Get Its Mojo Back

Higher prices for raw materials frustrate the turnaround efforts of this maker of iconic American foodstuffs.

It's best to avoid being cheesy when delivering jokes or pickup lines. But how Kraft Foods handles its cheeses as costs soar and consumers reel from the effects of inflation will determine whether the stock is an inspiring turnaround story or a disappointment.

Since its spinoff from Phillip Morris (now Altria) in 2007, Kraft, maker of such iconic American foodstuffs as Oreos, Cheez Whiz and Oscar Mayer hot dogs, has been on a restructuring tear. Leading the charge is the newly installed chief executive, Irene Rosenfeld, who returned to Kraft in 2006 after a two-year stint with PepsiCo's FritoLay division.

Since taking the helm, she has revamped the marketing effort, something that stagnated under Altria's thumb. "Coming out of Altria, the problem was an under-investment in the brand," says Cliff Remily, associate portfolio manager of Thornburg Investment Income Builder fund. "Rosenfeld said that in order to realize value, you have to reinvest in marketing and improve brand equity."

Despite these valiant efforts, Kraft isn't immune from higher costs for dairy, grain and meat products that are plaguing all food companies. "Every food company is being pushed down from a valuation perspective due to commodity price inflation," says Gregg Warren, an analyst with Morningstar. "A lot of these companies are trading at levels that we haven't seen in seven or eight years."

Yet fans of the new Kraft say there's a lot to like, such as the stock's recent performance. Over the past 12 months through August 7, the stock (symbol KFT) returned 1.5%, according to Morningstar. That's not much of a gain, but it beat Standard & Poor's 500-stock index by 14 percentage points. One apparent fan of Kraft is Warren Buffett. At last report, his Berkshire Hathaway owned 132.4 million shares, or about 8.6%, of Kraft's stock.

Another plus is a sales strategy called "Wall-to-Wall," in which a single sales rep is responsible for almost the entire Kraft product line in one store, allowing each rep to spend more time with retailers and build relationships. Early results suggest that the program is working. Stores with Wall-to-Wall increased sales one percentage point more in the year ended April 30 than stores without.

Observers were also impressed by the company's spinoff of the Post cereal brand shortly after acquiring Danone's biscuit business. "Getting rid of Post got them to be a much more narrowly focused firm," says Warren. The Danone purchase, meanwhile, allows Kraft to build on that brand's existing international relationships in developing markets. In the most recent quarter, 42% of sales were overseas. "It's adding a lot of growth on the margins," says Remily.

Then there's the cheese. That's the segment most sensitive to higher raw-material costs because it's not easy to hedge dairy prices. Yet Kraft was able to pass on to consumers price increases of 6% to 33% on 90% of its cheese products. Though it sold less cheese as a result, it managed to draw in higher operating profits in that segment.

And with $708 million in cash on the balance sheet, Kraft has plenty of room to implement an announced share buyback program. Even so, Kraft's stock is smack dab where it stood when Altria spun it off in March 2007, closing at $32.80 on August 8.

The reason, say the stock's detractors, is that it's too soon to tell whether Rosenfeld's leadership will make a long-term impact as Kraft faces such a headwind from higher input costs. "While we are not ready to call Kraft's results in the second quarter a tipping point, we admit that there is more upside at Kraft than their peers if they can get it right," say Credit Suisse analysts in a recent report.

The results were impressive indeed, more so given today's difficult climate. For the quarter ended April 30, earnings rose 15.5%, to 58 cents a share, from the year prior, beating the average of analyst estimates by 8 cents. Revenues, meanwhile, climbed a stunning 21.4%. The stock sells at 17 times estimated 2008 earnings of $1.93 per share and 16 times forecasted 2009 profits of $2.05 per share.

Company officials cautioned that results for the remainder of the year may not be so positive as input costs continue to weigh heavily on the company. "This year Kraft showed us it can increase sales, but next year Kraft needs to show that it can increase sales profitably," says Warren.

Even so, isn't the new Kraft worth more than the one that operated under Altria? If the company's revenue gains aren't consumed by the higher prices of cheese and other raw foods, the answer would seem to be yes.

Most Popular

Your Guide to Roth Conversions
Special Report
Tax Breaks

Your Guide to Roth Conversions

A Kiplinger Special Report
February 25, 2021
The 10 Best Closed-End Funds (CEFs) for 2022
CEFs

The 10 Best Closed-End Funds (CEFs) for 2022

These high-yielding CEFs won't just significantly boost your portfolio income. They'll also allow you to buy their underlying stocks and bonds at a di…
January 12, 2022
Sweet Silicon: 5 Superb Semiconductor Stocks for 2022
stocks

Sweet Silicon: 5 Superb Semiconductor Stocks for 2022

If 2021 was a good year for the chip industry, 2022 could be downright great. Here are five semiconductor stocks if you're seeking out growth.
January 11, 2022

Recommended

Stock Market Today (1/26/22): Powell Rate Comments Rupture Morning Rally
Stock Market Today

Stock Market Today (1/26/22): Powell Rate Comments Rupture Morning Rally

The market didn't flinch at the Fed's nod toward a March rate hike, but stocks swooned after Chair Powell said there's "quite a bit of room to raise i…
January 26, 2022
Stock Market Today (1/25/22): Stocks End Down on Another Roller-Coaster Day
Stock Market Today

Stock Market Today (1/25/22): Stocks End Down on Another Roller-Coaster Day

The major indexes stage another comeback Tuesday but this time can't escape declines; Microsoft falls after hours despite an earnings beat.
January 25, 2022
Could the Stock Market Crash for Real? Here’s How to Prepare
investing

Could the Stock Market Crash for Real? Here’s How to Prepare

After a long march to record heights, the stock market tripped into correction territory in January. How should you react? Thoughtfully.
January 25, 2022
The 60/40 Portfolio Is Dead. Long Live 33/33/33.
investing

The 60/40 Portfolio Is Dead. Long Live 33/33/33.

A portfolio of stocks and bonds used to be the gold standard, but it just doesn’t cut it anymore. It’s time to throw some alternative investments into…
January 25, 2022