General Mills (NYSE:GIS) and Kellogg Company (NYSE:K), the two great American cereal stocks, certainly aren't the most exciting stocks to own. However, both stocks offer decent dividends, and their portfolios of processed foods have previously withstood steep economic downturns. Therefore, let's take a closer look at both stocks to decide which is the better choice for income investors.

Image

General Mills' Cheerios. Source: Pixabay

Dividend basics
Both General Mills and Kellogg pay forward annual dividend yields of 3.1%. Over the past 12 months, General Mills paid out 57% of its free cash flow (FCF) as dividends, while Kellogg paid out 65%. That might seem like Kellogg is more "generous", but it also means that it has slightly less room to grow its dividend than General Mills. General Mills also has much better FCF growth. Over the past five years, its trailing 12-month FCF has climbed 28%, compared to Kellogg's 6% decline.

General Mills has consistently paid dividends without reduction or interruption for 116 years. Yet it isn't classified as a true "dividend aristocrat" (which raises its dividends annually for at least 25 years), since it didn't raise its dividend every year during that period. Nonetheless, General Mills has increased its dividend an average of 9.5% annually over the past five years.

Kellogg's dividend payouts stretch back to 1925, but it suspended its dividend between 2001 and 2004, thus disqualifying it as a true dividend aristocrat. Kellogg has raised its dividend annually since then, and increased its dividend an average of 4.5% over the past five years.

Bottom line growth
Companies can't keep paying and raising dividends without decent bottom line growth. Unfortunately, both General Mills and Kellogg have struggled with earnings growth over the past few years.

GIS Net Income (TTM) Chart

Source: YCharts

Two main problems caused that decline. First, demand for breakfast cereals has plunged as adults turn to healthier alternatives like yogurt, fresh fruit, and toast. For General Mills, that was bad news for core brands like Cheerios, Wheaties, and Lucky Charms. For Kellogg, that meant fewer customers were buying Fruit Loops, Corn Flakes, and Rice Krispies.

Second, food inflation caused the price of cereals and cereal products in the U.S. to rise 26% over the past ten years. Since slumping demand limits cereal makers' ability to raise prices, profitability declines. For the current year, General Mills expects its full-year operating profit in fiscal 2016 (the current year), on a constant currency basis, to decline at a "low single-digit rate". Kellogg expects its full-year operating profit for fiscal 2015 to slip between two to four percent annually.

Top line growth
Since General Mills and Kellogg have been hit hard by lower demand for breakfast cereals, both companies have diversified into other brands to offset those losses.

General Mills also owns Yoplait, Haagen-Dazs, Green Giant, Pillsbury frozen products, Betty Crocker, Annie's Homegrown organic foods, and other well-known brands. Kellogg is less diversified -- its noncereal foods mainly consist of breakfast bars, Eggo frozen waffles, Pop Tarts, and other snack foods like Cheez-It and Pringles.

As a result, General Mills' top line -- just like its bottom line -- has grown at a healthier rate than Kellogg's over the past five years.

GIS Revenue (TTM) Chart

Source: YCharts

General Mills expects annual sales in fiscal 2016, adjusted for currency impacts and excluding an extra week, to rise 1%. Kellogg expects its annual revenue growth to remain flat on a constant currency basis this fiscal year.

The winner: General Mills
With better free cash flow, top line, and bottom line growth, General Mills is clearly a better long-term dividend pick than Kellogg. General Mills' brand portfolio is also better diversified to withstand declining demand for breakfast cereals, while new health-oriented acquisitions like Annie's can help it profit from the growth of organic foods.

On top of all that, General Mills trades at 25 times earnings versus Kellogg's P/E of 51, making it the fundamentally cheaper stock. General Mills also trades at a slight discount to the industry average P/E of 26 for the processed/packaged foods industry. This doesn't mean, however, that General Mills is a perfectly safe income investment. The company still has to deal with weak demand for processed foods and food inflation before its bottom line can grow again.

Leo Sun 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.