The Special K: Is it Kellogg or Kraft?

Both Kraft Foods Group and Kellogg reported weak sales recently. However, one of them might still be an attractive long-term investment option--but which one?

May 14, 2014 at 9:31PM

Both Kraft Foods Group (NASDAQ:KRFT) and Kellogg (NYSE:K) reported earnings the other week. While both of them reported weak sales and this affected their stock prices, Kraft's shares managed, on May 7, to regain the ground they had lost over the last few days. Kellogg was also still down compared to its price before it announced earnings.

So let's take a look at Kraft Foods Group and compare it to one of its industry peers, Kellogg, in order to see if it is as a good investment option.

Kraft Foods Group: Product innovation is key


With a $33 billion market cap, Kraft is a food and beverages company (North America's fourth-largest) that was formed in October 2012 when it was spun off from its parent company -- now called Mondelez International. While the latter now controls Kraft´s former global snacks and candies businesses, Kraft Foods Group owns the North American grocery portfolio, which includes beverages, cheese, and convenience meats. In addition to the Kraft brand, the company owns several others, like Oscar Mayer, Maxwell House, and Jell-O.

Although Kraft´s revenue came in low (its sales fell 3.3% in the first quarter, mainly due to a late Easter), earnings growth, fueled by lower overhead costs and an increase in productivity, helped offset the trend. First-quarter earnings of $0.85 per share surpassed the consensus estimate by $0.09. Kellogg's revenue also fell, by 3.1%, on account of the decreasing consumption of breakfast cereal in developed markets. Management expects sales growth to intensify in the ongoing quarter, mainly on the back of a greater advertising budget which aims at incentivizing cereal consumption in the U.S., parts of Europe, and Australia. However, analysts' projections do not look encouraging.

Going forward, analysts expect Kraft's revenue growth to reach 1.6% in 2014 and 2.4% in 2015. However, these discouraging figures find their counterparts in the EPS growth projections. Analysts expect EPS growth of 22.7% for 2014 and 7.80% for 2015 from Kraft, almost tripling the compound growth expected from Kellogg. Over a five year time-frame, analysts anticipate average annual EPS growth rates of around 8%-9% (on the back of cost-saving and efficiency-improving initiatives), which looks just fine, given the limited risk involved in this investment. However, which risks are involved?

The packaged foods company generates the bulk of its sales in North America, a mature, highly competitive market. In addition, about 42% of Kraft´s sales come from its five largest customers (with 25% coming from Wal-Mart). All of these factors not only limit Kraft´s pricing power and margin expansion, they also limit its bargaining conditions. These are further restricted by the increasing commoditization of some of its main products, like packaged meats and cheeses, which account for about 50% of its total sales.

Despite this, the company seems poised to deliver sustainable growth over the next few years. A wide product portfolio and relative scale advantages (especially in the U.S.) provide it with an important lead over most of its competitors, although Kellogg also enjoys these advantages. Furthermore, the latest earnings report revealed an adjusted operating margin of 19.9% (down 70 basis points). 

That decline reflects higher marketing investments, which is usually seen as positive spending. In fact, the company spends about 5% of its annual revenue on product innovation and brand promotion, focusing its resources on a few high-impact product launches. These efforts should drive top-line growth over the medium and long-term, as they have in the past couple of years.

Kellogg and the declining cereal industry
Unlike Kraft, Kellogg offers its products in more than 180 countries and derives about one-third of its sales from international markets. Nonetheless, this kind of reach does not come without risk; currency fluctuations could certainly hurt Kellogg´s earnings. Furthermore, getting the preferences of so many and such different countries right is not always an easy task. In order to better tackle this matter, Kellogg constantly looks to acquire -- or participate in joint ventures with -- local companies around the world.

In addition, strong competition from both branded manufacturers and lower-priced private label products could cap Kellogg's development. Plus input costs continue to rise, forcing the company to either sacrifice its margins or increase its prices, which could in turn affect its sales.

Kraft stock trades at 12 times its earnings, while its peers exchange at an average valuation of 17.4 times their earnings and Kellogg trades at 12.5 times its earnings. However, some analysts sustain that the stock is still overvalued in relation to its fair value. Moreover, as explained at MagicDiligence's CAPS Blog, Kraft's real valuation, when pension gains are not included in its EPS, ascends to approximately 21 times the company's earnings.

On the other hand, Kraft yields about 3.75% of its current stock price in the form of quarterly dividends (vs. Kellogg's 2.82%) and boasts a return on equity of 61.3% (vs. Kellogg's 60.5%), which makes it a highly attractive option for income investors. Furthermore, the company expects its cost-saving initiatives to provide it with cash for both reinvestment in the business and returns to shareholders (the distribution will go 50/50), while acquisitions will remain a lower priority.

Foolish Takeaway
Although these companies' valuations can trick you into thinking that they are undervalued, entry points at both of them look somewhat unattractive. However, Kraft holds the better hand as it offers decent growth potential and a "moated" business run by an effective management team. A wide portfolio, scale advantages, and big investments in product innovation and marketing should drive growth over the next few years. In the meantime, a generous dividend yield and share repurchase plans will make your wait worthwhile.

Will this stock be your next multi-bagger?
Give me five minutes and I'll show how you could own the best stock for 2014. Every year, The Motley Fool's chief investment officer hand-picks 1 stock with outstanding potential. But it's not just any run-of-the-mill company. It's a stock perfectly positioned to cash in on one of the upcoming year's most lucrative trends. Last year his pick skyrocketed 134%. And previous top picks have gained upwards of 908%, 1,252% and 1,303% over the subsequent years! Believe me, you don't want to miss what could be his biggest winner yet! Just click here to download your free copy of "The Motley Fool's Top Stock for 2014" today.

patricio kehoe has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.

Compare Brokers