Kraft Heinz: How About Some More R&D

|
About: The Kraft Heinz Company (KHC)
by: Baruch Lev
Summary

Kraft Heinz keeps writing-off its old, tired brands.

But where would the new products and brands come from?

KH managers are famed for cost cutting. R&D should be the exception.

Late last week, the Kraft Heinz (NASDAQ:KHC) Company served investors with another brands write-down: $1.22 billion. This, in the wake of a massive $15.4 billion write-down of brands and goodwill last February. And, the Journal (August 8, 2019) reports that KH considers further brands write-downs. When will it all end?

KH’s CEO was quoted by the Journal saying: “We need to work on our competencies for the future.” Indeed. But then he added that the company hasn’t done enough to advertise its brands, particularly among Latinos.

I doubt that KH’s main problem is lack of brand awareness. Who hasn’t heard of Maxwell coffee, Oscar Mayer meats, Heinz Ketchup, or Philadelphia cream cheese? The problem is that these are decade-old brands which aren’t exactly popular among customers looking for fresher, healthier stuff. What KH badly needs are new, attractive products, and the only way to get such new products is by a concerted R&D, product development effort. (KH already tried the alternative—acquisitions—with very limited success.) But R&D is KH’s Achilles heel.

Kraft Heinz spent on R&D during 2016-2018 a meager 0.4% (yes, less than half a percent) of sales. Mondelez International, another food producer, similar in sales to KH (but with more than double the market cap), spent on R&D 1.4% of sales during 2016-2018. Larger food companies spend even more on R&D: Nestle’s and Unilever’s R&D is close to 2% of sales, and Danone’s is about 1.5%. Pepsi’s is at 1.2%. So, KH is last in R&D, by a substantial margin, among large food companies. The difference in the absolute R&D spending is staggering: Whereas KH spent $109 million on R&D in 2018, Nestle invested $1.7 billion in product development. How does KH’s CEO plan to “… work on our competencies for the future” with a $100 million R&D budget?

I am currently researching with Anup Srivastava the reasons for the “demise of value investing” since 2007 (value investing means: buying low-valuation stocks and shorting high-valuation, glamour stocks). One of our surprising findings is that since the financial crisis there has been a dramatic slow-down in the number of firms that have “escaped” the low-valuation trap (the lowest 30% of stocks ranked by the market-to-book ratio) by improving their performance and share values. A “logit analysis,” aimed at identifying the attributes which distinguish between the escapees and those mired in low valuation singled out R&D as the major factor elevating companies from the low-value ranks. Neither acquisitions nor capital expenditures (in physical assets) helped much in the cause of value ascendance. Innovation does, and R&D is a major driver of innovation.

What Kraft Heinz needs to stop the brand hemorrhage and reignite growth is a strong and sustained infusion of investment in R&D aimed at developing attractive new products, as its famed brands were decades ago. KH managers are famed for cost cutting. R&D should be the exception.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.