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Kraft (KHC) Down 33% Since Last Earnings Report: Can It Rebound?

It has been about a month since the last earnings report for Kraft Heinz (KHC). Shares have lost about 33% in that time frame, underperforming the S&P 500.

Will the recent negative trend continue leading up to its next earnings release, or is Kraft due for a breakout? Before we dive into how investors and analysts have reacted as of late, let's take a quick look at its most recent earnings report in order to get a better handle on the important drivers.

Kraft Heinz Q4 Earnings Miss Estimates, Guides Weak

Kraft Heinz reported fourth-quarter 2018 results. Adjusted earnings per share of 84 cents came below the consensus mark of 93 cents. Also, the bottom line decreased 6.7% year over year, as gains from lower taxes were more than offset by lower adjusted EBITDA, elevated interest costs, and greater depreciation and amortization costs.

Net sales came in at $6,891 million, depicting 0.7% rise from $6,844 million reported in the prior-year quarter. Net sales growth includes 0.5 percentage point gain from buyouts and divestitures as well as a negative impact of 2.2 percentage points from currency. Organic sales increased 2.4%.

Pricing depicted a decline of 1.6 percentage points, owing to increased promotional support and pricing actions in North America, negated by higher pricing in EMEA and ROW regions. Volume/mix increased 4.0 percentage points due to solid consumption gains in North America, and growth in condiments and sauces in Latin America, EMEA and North America.

Gross profit of $2,233 million declined almost 3% year over year.

Adjusted EBITDA was down 13.9% to $1,699 million in the quarter, with currency playing a spoilsport to the tune of nearly 2.4 percentage points. Excluding currency, softness in adjusted EBITDA was mainly driven by weakness in the United States, which countered growth in all other regions.

Segment Discussion

United States: Net sales of $4,810 million advanced 1.1% year over year. During the reported quarter, pricing declined 2.8 percentage points due to commodity-driven pricing activities in coffee and dairy, elevated promotions in ready-to-drink beverages and natural cheese, and unfavorable promotional timing in Lunchables. Volume/mix advanced 3.9 percentage points buoyed by improvements in several categories.

Segment adjusted EBITDA plummeted 16.3% to $1,264 million, as gains from lower core commodity costs and improved volume/mix were countered by reduced pricing, elevated net costs and costs related to strategic investments.

Canada: Net sales of $600 million went up 1.8% year over year, including a 4.2 percentage point adverse effect from currency translations. Pricing went down 1.7 percentage points as favorable foodservices pricing was more than mitigated by greater in-store activity in certain categories. Volume/mix jumped 7.7 percentage points, thanks to improvements in various categories.

Adjusted EBITDA rose 1.1% to $163 million, including currency woes to the tune of 4.4 percentage points. Improved volume/mix and reduced input costs were somewhat offset by reduced pricing and escalated overhead expenses.  

EMEA: Net sales of $692 million dipped 1.1%, including adverse currency impacts of 4.3 percentage points and a 1.9 percentage point unfavorable effect from a South African joint venture’s sale. Organic sales grew 5.1% year over year. Pricing rose 2.6 percentage points, owing to favorable promotional timing in the U.K., the Middle East and Africa, which was somewhat countered by reduced pricing in Eastern Europe. Volume/mix advanced 2.5 percentage points, owing to gains in certain categories and regions, which were partially offset by reduced shipments in Africa and the Middle East.

Adjusted EBITDA declined 2.6% to $171 million, which includes currency headwinds of 4.3 percentage points. On a currency-neutral basis, adjusted EBITDA grew 1.7%, thanks to higher organic net sales, which was somewhat countered by greater overhead expenditure.

Rest of World (comprising Latin America and APAC): Net sales of $789 million inched down 0.8%, with a 12.6 percentage point adverse impact from currency that largely countered gains from Cerebos’ buyout and higher organic net sales. Markedly, organic sales were up 5.3%. Volume/mix improved 3.5 percentage points, fueled by solid growth in condiments and sauces in Latin America. This was countered by reduced shipments in Asia-Pacific. Pricing jumped 1.8 percentage points, mainly owing to inflationary trends in certain regions in Latin America, partially negated by reduced pricing in China.

Adjusted EBITDA fell 6% to $134 million, due to currency headwinds of 31.8 percentage points. On a currency-neutral basis, adjusted EBITDA rallied 25.8% on increased organic net sales, partly negated by elevated input costs.

Financials

Kraft Heinz ended the quarter with cash and cash investments of $1,130 million, long-term debt of $30,873 million and total shareholders’ equity of $51,903 million.

In a separate press release, Kraft Heinz announced a quarterly dividend of 40 cents per share, which represents a decline from the company’s previous quarter’s dividend of 62.5 cents. The new dividend is payable on Mar 22, 2019, to shareholders of record as on Mar 8.

Outlook

Management expects to continue with organic sales growth in 2019, on the back of additional consumption gains stemming from improved volume/mix. This, in turn, is expected to be fueled by innovation, whitespace and distribution endeavors, and pricing activities. These are likely to help Kraft Heinz battle cost-related worries.

However, organic sales are anticipated to decline in the first quarter due to unfavorable year-over-year comparisons. Further, currency headwinds and divestitures are expected to hurt net sales by 3-4% in 2019.

In terms of profitability, management expects adjusted EBITDA to decline at a high-teens rate in the first quarter, owing to cost inflation and planned commercial expenditure. Although the company in undertaking solid pricing initiatives, these are not likely to yield until the end of the first quarter. Moreover, management expects the bottom line to witness impressive growth from 2020.

In 2019, earnings are likely to remain pressurized by soft EBITDA, increased depreciation costs and elevated interest costs, among other factors. Though the company remains conservative about 2019, it is on track to deliver consistent rise in profits from 2020 on the back of improved cost structures, brand strength and enhanced capacities.

How Have Estimates Been Moving Since Then?

In the past month, investors have witnessed a downward trend in fresh estimates. The consensus estimate has shifted -26.26% due to these changes.

VGM Scores

Currently, Kraft has a subpar Growth Score of D, however its Momentum Score is doing a lot better with a B. Charting a somewhat similar path, the stock was allocated a grade of C on the value side, putting it in the middle 20% for this investment strategy.

Overall, the stock has an aggregate VGM Score of C. If you aren't focused on one strategy, this score is the one you should be interested in.

Outlook

Estimates have been broadly trending downward for the stock, and the magnitude of these revisions indicates a downward shift. It's no surprise Kraft has a Zacks Rank #5 (Strong Sell). We expect a below average return from the stock in the next few months.


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