2/19/08

What's So Good About Kraft?

In what should be old news by now, Warren Buffett bought a sizable position in Kraft (KFT) recently. Besides this stamp of approval, which is all most people need, really, what else has Kraft got going for it?

Headquartered in Illinois, Kraft makes and sells various food products around the world, from snacks to beverages to frozen dinners to diet foods to desserts. It is the largest packaged food company in North America, and second largest in the world. Pretty much any packaged supermarket category you can think of, Kraft has a product for it. You probably ate something it made today. If not, you will soon. Six of Kraft's brands generate over $1 billion in sales each year. You may have heard of them: Jacobs, Kraft, Nabisco, Oscar Mayer, Maxwell House, and Philadelphia. It's hard to avoid buying something manufactured by Kraft, which is likely one reason Buffet bought a ton of its stock. But why now?

Despite it being the ultimate consumer staples stock, the company, which before was a part of Altria (MO) (Philip Morris before the name change) faces some problems. Commodity prices are soaring. This includes agriculture products as well as energy and packaging costs. Kraft has trouble raising its prices to compensate because of private label competition, to which Kraft is losing market share. This has contributed to the company's weak stock price, hovering near 52 week lows before the announcement that Buffet bought the stock.

To counteract these headwinds, the company is trying to save on productivity. Moreover, it recently bought Groupe Donone's (GDNNY) biscuit unit for $7.8 billion, which should help it gain market share in overseas markets. Kraft plans to sell off its underperforming Post cereals, which include Shredded Wheat and Raisin Bran. Post will be sold for $1.7 billion to Ralcorp (RAH). As the transaction will be all stock, it will be tax free, and Kraft shareholders will own 54% of Ralcorp. The transaction will get rid of about $1 billion in debt off of Kraft's books.

Additionally Kraft will sell its Fruit2O and Veryfine beverage brands to Sunny Delight, which used to be part of Proctor & Gamble (PG). Analysts expect Kraft to divest some of its other non-core businesses, like Stove Top stuffing, A.1. Steak Sauce, and Grey Poupon. All this should increase Kraft's growth.

Analysts speculate that since Nestle (NSRGY), the world's largest packaged goods maker, recently authorized a $20 billion stock repurchase plan, Kraft might be pressured by shareholders to do the same. If it turns out true, this too should raise the stock's price.

Kraft's dividend yield, as of writing, is a solid 3.7%. It has raised its dividend every year since 2001.

In all, Kraft is a large transnational company with brands almost everybody buys, that has faced and will face some near term trouble. Its future, however, appears pretty bright. Given Buffett's endorsement, I'll consider buying it under $30.