Trends That Give Kraft Foods a Buy Rating
Kiran is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The improving employment data supports the view that the U.S. economy is gradually coming out of the economic crises. This will eventually result in increased consumption, contributing heavily towards higher consumer spending on food items both at home and away.
As disposable income levels increase, I believe investors will witness growth in all food categories, particularly in refrigerated meals. Nonetheless, it must be noted, the overall consumption level at present is far below the pre-recession levels, thereby, whether it can catch up and exceed those levels will primarily depend on the growth rate posted by the U.S. economy in the coming years.
The refrigerated meals division of Kraft Foods (NASDAQ: KRFT) offers packaged dinners, lunch combinations and processed meats. This particular division generated $3.3 billion in revenues during 2012 with an EBITDA margin around 15%. According to the research offered by Trefis, Kraft’s revenue through this division is estimated to grow at an average annual rate of 5% to 6%, predominantly due to noticeable change in consumer preferences, an improving macroeconomic environment and higher prices.
Growing demand for refrigerated meals
The economic recession during 2008 led to a massive slowdown in the growth of dollars spent on food away from home. The consumers were forced by the turbulent economic environment into reducing their food bills, which eventually resulted in consumers refraining from eating away from home.
According to the a recent research published by the Economic Research Service department of the USDA, there has been a considerable reduction in growth of consumer spending on food away from home during the last four years. However, in stark contrast the growth in money spent on home food items only exhibited a marginal slowdown.
Refrigerated meals offer a high level of flexibility to consumers in addition to low food bills. Over the last few years consumers have exhibited a clear inclination towards refrigerated meals as an easy cost cutting solution. Therefore, the market for such products has escalated rapidly in recent times, which, allows me to hold a bullish view on Kraft Foods' stock price.
There is a noticeable change in trend in the U.S. food market with an increased consumption of vegetarian food. This was established by Datamonitor, which states that vegetarian items accounted for 5.4% of all new products launched during 2011, which is a significant increase from 4% during 2006.
At present, the consumer base for vegetarian products is relatively small, nevertheless, the vegetarian market is expected to grow at an exponential pace in the future, as consumers turn more health conscious.
Kraft Foods vegetarian products, which are offered through the Boca Foods are fast growing in popularity, especially among consumers that are more inclined towards healthier eating options. Going forward, if the trend continues, Kraft Food's vegetarian products should turn into a main revenue driver for the company.
According to the data published by the Bureau of Labor Statistics, the prices of milk, beef and chicken have consistently increased at a rate of 4% to 6% during the last three years.
In addition, sluggish agricultural production of corn, soybean and other crops have resulted in higher commodity costs. The sharp rise in commodity prices coupled with drought type conditions during 2012 made things go from bad to worse in the U.S. Commodity costs in the near term are expected to remain on the higher side, which may lead to an increase in selling prices.
Another challenge for Kraft Foods is the growing negative perception of refrigerated and frozen foods. They are considered to contain low nutritional value and harmful preservatives. It is essential for the entire industry to change the growing perception among consumers through investing in marketing and educating the customers on the benefits associated with healthy vegetarian meals.
Competitive landscape of the industry
Kraft Foods competes directly with Hillshire Brands (NYSE: SLE). The company generates the highest percentage of its revenue through meat and bakery products, at around 73% of total revenue, which is followed by its Food Service segment, at around 26% of total revenue. Taking in account the general trend in the industry, which is a growing inclination towards healthier meals, the company plans to increase its marketing and product development budget in order to bolster the sales of its healthier meat products.
At present, the company holds a market share of 3% in the meat products category within the entire North American retail market. As per the projections offered by Trefis, its market share is expected to grow at a marginal rate and reach 3.6% over the next few years.
Going forward, if the company fails to report any organic or inorganic growth in revenues, then its stock price may take a steep fall.
ConAgra Foods (NYSE: CAG) is another competitor to Kraft Foods in the Food & Beverage industry. It has a market value of $14 billion, and owns several household brands such as Healthy Choice, Hebrew National, and Del Monte.
During the previous fiscal year, ConAgra net sales grew 8% and its shareholders were generously rewarded, as the dividends grew 4%. ConAgra possesses a robust business-to-business presence, and presently, the company is only focused on the North American market.
Going forward, its growing debt due to the Ralcorp's acquisition and lack of presence in the fast growing developing regions will remain a huge concern for potential investors.
Foolish bottom line
The refrigerated meals market in the U.S. is estimated to grow at around 4%, as the economy is exhibiting signs of improvement coupled favorable industry trends and consumer preferences.
However, I do believe long-term growth will predominantly depend on if the consumer perceptions related to health change or not. The leading players in the refrigerated products industry are already doing their part by investing heavily in marketing in order to increase consumer awareness on the costs and benefits associated with refrigerated food items. In addition, the growing popularity of vegetarian meals will certainly bolster Kraft Food's revenues in the future.
Going forward, the cost-reduction initiatives taken by the company should enable it in creating a stronger brand image and more consumer-centric products through surplus cash. Such favorable trends allow me to keep an optimistic view on Kraft Food's stock price.
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Kiran Gulati 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!