Kellogg: Why Pringles Changes Everything

By Jane Genova - February 21, 2012 | Tickers: GIS, K, KFT, PEP, SBUX | 0 Comments

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Kellogg Company’s (NYSE: K) John Bryant might just go down in history as the Chief Executive Officer/President who made that genius purchase of Pringles. The price was $2.7 billion.  The seller was Procter & Gamble.  That single development can and probably will transform this old-line midwestern company into the wicked smart player everyone, ranging from competitors to management consulting firms like McKinsey, watches.

Already, plenty has changed. Now analysts, such as UBS’ David Palmer, discuss Kellogg in the context of that choice-of-a-new-generation PepsiCo (NYSE: PEP). That's a long way from being identified primarily with the uncool Tony the Tiger. The context was created because buying Pringles put Kellogg into the number-two spot in snacks, right behind PepsiCo.  This dramatic shift is exactly what Kellogg needs. The timing couldn’t have been better. 

As BARRON’S reports, last week General Mills (NYSE: GIS) announced that it had fears that it couldn't pass along rising commodity prices onto customers this year.  Its recent performance hasn’t been so hot.  For the last quarter its 76 cents EPS was 3.8 percent below consensus.  Pound volumes were down about seven percent from that time a year ago. Analysts predict a tough 2012 for conventional food companies. For many consumers, despite signs of recovery, extreme bargain hunting still mandates.  That means that unless the corporations could offer something compelling or cool, they will be squeezed on price or their brands not selected at all as shoppers opt for private labels such as Wal-Mart's (NYSE: WMT) Sam's Club and Great Value.  A 9-ounce box of Great Value multigrain cereal can be a buck or more cheaper than a similar sized General Mills Cheerios. 

Those in communications realize that most companies would have had to invest billions in advertising and public relations for the kind of branding shift Bryant pulled off. Now, of course, he has to build on that new platform.  A bold and big piece of that upheaval has been from good-for-you, which was embedded in Kellogg’s history, to just-for-the-taste-of-it.  No way can Pringles, like PepsiCo’s Doritos, be framed as the right thing to eat. That’s even though Pringles now does come in multigrain versions.  Interestingly at the same time, versions of Pringles have also come out with extra salt.  Will the Food Police in New York City ban Pringles from bars?  What a public relations coup that would be for Kellogg.  Such a controversy would anoint goody-two-shoe Kelloggs as, well, quite interesting. That would set up expectations for further out-of-the-cereal-box developments coming from this midwestern company. 

With the purchase will come more shelf space since whoever owns Pringles gets that space.  Annually Pringles does about $1.6 billion in global sales and is the fourth biggest snack in the world.  As a result of this purchase, 46 percent of the Kellogg business will be snacks, up from 40 percent. That’s where it needs to be globally since outside the U.S. snacks are the seller, not its cereals.  Last August, Kraft (NYSE: KFT) announced that it is splitting into two.  One half would be snacks, ranging from Ritz crackers to Oreo cookies.  The other would be grocery items such as Oscar Mayer meats.  The importance of snacks in a food company's portfolio of products is obvious. 

Meanwhile here in the U.S.market, this additional investment in snacks solves Kellogg’s after-breakfast problem, when sales drop off.  Players in other categories such as Starbucks (NASDAQ: SBUX) experience that same revenue gap post-breakfast. To fill it up, Starbucks is experimenting with beer, wine and upscale snacks served on china.   If Bryant maximizes the momentum of this move, growth in snacks should gallop past the 11 percent revenue growth in the fourth quarter of last year for items like its wholesome crackers.

At that same time cereals had low single digit growth in about the four percent ballpark.  The reality of human existence is that “devil’s food” – which many products are labeled such as Martha Stewart cupcakes - sell briskly.  Way back in religion-dominated 1667, John Milton made it clear in “Paradise Lost” that bad is inherently more compelling than good.    

Some analysts such as those at Jefferies & Company seemed to have missed the brilliance of Kelllogg's finding its inner naughty self.  THE NEW YORK TIMES quotes that group  as observing, “We find ourselves less than enthralled with the strategy behind purchasing a domestically tired brand that appears somewhat out of sync with the trends towards better-for-you snacking.”  Nevertheless, it has a hold on the stock and raised its price target from $47 to $52.  Let’s look at that opinion.  

To begin with, out of sync was exactly what Kellog needed.  In sync meant entering into a scary 2012 forecasted for its former core competence. “Tired” is in the eyes of the buyer.  Pringles, as mentioned previously, is the fourth biggest snack seller globally. And, PepisCo is among the companies learning that better-for-you has to be positioned and packaged cleverly. PepsiCo’s Chief Executive Officer Indra Nooyi has become a target of investor criticism.  They see her implementation of her healthy eating mission as ham-handed and unprofitable. According to AIBInternational, the top 10 snacks are pies/pastries, donuts, corn chips, potato chips, chewy candy, hard candy, ice cream/fudge bars, fresh fruit, and cheese.  Eight out of 10 are not healthy.  To turn this around, Nooyi might have to follow the wisdom of Mary Poppins who said, “A spoonful of sugar makes the medicine go down.” The good has to be masked by the bad.

Kellogg forecasts that Pringles will add eight to 10 cents to EPS in 2012, excluding the costs related to the purchase. Credit Suisse analysts raised their price target for Kellogg to $56. The stock price is now at 52.56, with a 52-week range of 48.10 to 57.70.  Bank of America analysts reiterated its buy.  Morgan Stanley analysts set an equal weight rating on the stock.

It's possible and highly probable that Kellogg will take its role of the player very seriously. So, we can anticipate more out of sync acquisitions, an innovative online business, and edgy advertising.    

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