Kraft Heinz Sees Sales Gains, but Will It Last?
This no-moat firm is winning with consumers amid COVID-19, but we don’t think this growth will prove sustainable.
In a shift from the tepid top-line metrics posted for the better part of the past five years, no-moat Kraft Heinz (KHC) served up a whopping 6% organic sales gain in the first quarter of fiscal 2020 (3% on a reported basis, constrained by recent divestitures and unfavorable foreign currency movements)--though management suggested increased costs to meet this demand (likely related to labor and maintenance) stand to eat into a portion of the profit benefit. We aren’t surprised its fare is winning with consumers amid recently mandated shelter-in-place orders and social distancing initiatives due to COVID-19 (aiding sales through the retail channel, which we estimate compose around 85%-90% of Kraft Heinz’s mix). However, we don’t think this growth will prove sustainable, as consumers ultimately destock their pantries over time. Further, we don’t expect the competitive intensity that has characterized the industry (from other branded operators, lower-priced private-label fare, and small, niche operators) is poised to fade.
While the firm has succumbed to lackluster sales and impaired retail relationships since the merger was inked in 2015 (stemming from past management’s bent to ratchet back spending on research and development, as well as marketing to increase profits), we think change is afoot. More specifically, we anticipate new CEO Miguel Patricio favors the pursuit of sustainable efficiencies (versus blindly rooting out costs) as a means to up the ante on its brand spending (marketing and product innovation) and capabilities (category management and e-commerce) in an effort to aid its sales trajectory and bolster its standing with retail partners. Although we view this aim as prudent, we think sales will revert back to the low-single-digit marks that tend to emulate from this mature industry. We will await details from its upcoming earnings release (slated for April 30) but don’t intend to alter our $48 fair value estimate and think shares offer upside.
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Erin Lash does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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