Earnings estimates for Kraft Inc. (KFT) are declining following the release of strong fourth quarter and full year 2009 results. Kraft completed 2009 on a strong note with fourth-quarter earnings increasing 17.1% from the year-ago period to 48 cents per share. Full-year earnings increased 6.8% to $2.03 per share.
Fourth-quarter revenues grew 3.2% to $11.0 billion. Revenues were positively impacted by foreign exchange (FX) fluctuations (3.2%). However, full-year revenues declined 3.7% to $40.4 billion.
For the fourth quarter, strong revenue growth in the International segment was offset by decline in the North American segment. In the International segment, net revenues in the European Union increased 8.0% while the top-line in the developing markets expanded 11.2%. In the North American segment (KNAC) sales declined 1.5% year-over-year as gains in U.S.
Convenient Meals (3.9%), U.S. Grocery (0.1%) and Canada & North American Foodservice (8.2%) were fully offset by declines in U.S. Beverages (1.9%), U.S. Cheese (13.7% and U.S. Snacks (3.3%).
Performance in 2009
In fiscal 2009, Kraft exited its three-year turnaround plan, having achieved all its targets. In the first year, the company rejuvenated its top-line growth, in the second year management was able to grow both the top and the bottom lines and in the third year, it built on profit margins and market share.
Furthermore, since 2006, on average the company has achieved 4.5% organic revenue growth per year. Management has made significant investments in product quality, marketing and innovation while growing operating income 10% per year on average and raising the operating margin to 13.7% in 2009 from 12.6% in 2008.
Additionally in 2009, the company generated cash flow equal to 124% of its net earnings, which was up from 83% in 2006.
Kraft was able to generate significant gains in 2009 from intense focus on working capital management and improved earnings, while ensuring growth with sufficient capital expenditure. Free cash flow for 2009 increased 35% to $3.8 billion.
Acquisition and Divestiture
Furthermore, the combination of Kraft Foods and Cadbury is expected to provide meaningful revenue synergies. As a result, the combined company expects long-term organic net revenue growth of more than 5%. The combined company also expects to generate pre-tax cost savings of at least $675 million annually till the end of 2012. Total implementation cash costs of approximately $1.3 billion are expected to be incurred through the end of 2012.
The acquisition is expected to be accretive in 2011 by approximately $0.05 on a cash basis, which excludes one-time expenses, expenses related to the transaction and the impact of incremental non-cash items such as the amortization of intangibles related to the acquisition. Over the long-term, the combined company expects EPS growth of 9% to 11%.
Apart from this, in January 2010, the company also decided to sell the assets of its North American frozen pizza business to Nestlé USA, Inc. (Nestlé) for a total consideration of $3.7 billion. The deal is expected to close by mid-2010. The company expects a 5 cent negative impact on earnings per share on an annual basis as a result of the transaction.
Estimate Revisions Trend
Providing for the impact of the divestiture mentioned above, several analysts following the stock have revised their estimates over the past 30 days. As a result, six of the 17 analysts following the stock lowered earnings estimates for fiscal 2010. This brought the Zacks Consensus Estimate for the year down to $2.11, 5 cents below the estimate 30 days ago.
The estimates for the March and June quarters of 2010 have also been reduced by 3 cents each.
The company expects revenue growth of 4% for the upcoming quarter and earnings growth excluding special items are expected at the high end of the 7% to 9% guidance range, which is between 53 cents and 55 cents. The current Zacks Consensus Estimate of $0.47 is below the guided range. However, considering Kraft’s previous track record, we believe the company will achieve the guided numbers.
Our belief is strengthened by the fact that earnings exceeded the Zacks Consensus Estimate in each of the last four quarters, with a four-quarter average positive surprise of 8.25%. This means that on average, earnings beat the Zacks Consensus Estimate by 8.25%. Therefore, although surprises have varied considerably from quarter to quarter and this trend could continue in future, we expect the average surprise for the year to be positive.
For the March quarter, we believe the negative impact of the divestiture has been factored in. Therefore, downside is likely to be limited, in our opinion.
Consequently, we have a Neutral recommendation on the stock, indicating that we expect it to trade in the current range over the next three to six months. Its Zacks #3 Rank indicates that the near-term (one to three month) outlook on the stock is similar to our long-term view.
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