The New Kraft: Reinventing Itself - Part 2

| About: The Kraft (KHC)

Kraft Food Group (KRFT) is on a roll! Earlier this month the company delivered solid first quarter 2013 results with organic sales growth of 2.1% to $4.5 billion. Operating income grew by more than 9% to $809 million driven by aggressive overhead cost savings, productivity gains and top line sales growth resulting from new products and increased marketing. First quarter free cash flow was $147 million in a quarter that typically results in a use of cash. Earnings per share were $0.76 which was $0.12 ahead of analyst estimates and $0.06 short of last first quarter's $0.82/share. However, EPS this year included $0.12 per share in restructuring charges. Without the charges related to the spin-off this was an earnings-positive quarter.

In its first quarter earnings release the company also affirmed full-year 2013 guidance of EPS of $2.75 and free cash flow of $1 billion.

First Quarter Results: Sales Product Mix


Up 5.5%


Up 1.8%

Refrigerated meals

Up 2.4%

International and Foodservice

Up 1.7%


Decline 0.4%

Gains in volume/mix were 2.4% offset by a 0.3% impact from lower pricing. The timing of Easter shipments added between one half and a full percentage point to overall revenue growth. Gross margin improved to 33.1%, operating margin at 18.8% increased from 16.6 last year.

New CEO Provides Clear Direction and Leadership

New CEO Anthony (Tony) Vernon joined Kraft in August 2009 as Executive Vice President and President Kraft Foods North America. When plans were announced in 2011 to spin off and separate the North American Foods business, which became Kraft Food Group, from the international confection and beverage business now known as Mondelez International (NASDAQ:MDLZ), Vernon was designated as the future CEO. He assumed the position when the spin off was completed in October, 2012.

In Part 1 of this article (viewed here) written in March 2013, I discussed Vernon's vision for Kraft as expressed in his February 2013 presentation to the Consumer Analyst Group of New York (CAGNY). In the presentation the new CEO and his team outlined 4 key strategies to deliver both top line and bottom line growth. Given the results of the first quarter 2013, as outlined above, it is clear Vernon is on the right track.

What difference can a leader make? Vernon can be the change agent so desperately needed by the former stoic, although iconic, Kraft Foods Group. Vernon brings a cultural change and laser focus on cash flow and product innovation. First quarter results show he is gaining traction on his strategic initiatives.

Dominant Kraft Brand Portfolio

The Kraft Foods pantry is filled with dominant brands. The company enjoys an enviable 98% household penetration in the United States and 99% penetration in Canada. The portfolio consists of 9 brands which exceed $500 million in annual revenue (including the top 3 $1 billion-plus brands) and 29 brands exceeding $100 million in annual sales. This portfolio of food and beverages average two times the share of the nearest branded competitor. A good example of the scale of the company is that one million boxes of Kraft Mac and Cheese are sold every day!

As indicated in the first quarter earnings release, the company has vigorously controlled and reduced costs, but there always remains a threat of commodity input inflation which pressures margins. In addition, increased advertising costs-which are necessary to move product, especially brand extensions and new product roll outs-may pressure profits going forward.

Recent Kraft Price Targets and Ratings Upgrades as a Result of First Quarter Performance:

--Jefferies: Price target increased from $52 to $60 with a buy rating. Jefferies analyst, Thilo Wrede commented, "We continue to see KRFT as one of the best operators in the US packaged food industry.

--Credit Sussie: Rating upgrade to Outperform.

--BMO Capital Markets: Raised both their price target and rating on the stock-- to $56 and outperform.

Attractive Dividend

A generous $2.00 annual dividend payment currently yielding 3.6% supports the stock over the long haul.

Final Thoughts and Conclusions:

Kraft Food Group is a great company and is in good hands with new CEO Tony Vernon and his team. It is encouraging to see Vernon's plan gain traction as it comes to fruition. His commitment to innovation with new product launches and brand extensions suggests continued growth. This stock is appropriate for retirees like me seeking income who at the same time seek the safety of an American brand with a North American footprint. Investors should be cautioned to wait for a share price pullback before investing as the stock is at or near its all time high.

Disclosure: I am long KRFT, MDLZ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am not a professional investment advisor, just an individual handling his own account with his own money. You should do your own due diligence before investing your own funds.