Kellogg working 'behind the scenes' for a better 2017

by Monica Watrous
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Dunkin' Donuts flavored Pop-Tarts, Kellogg
Forthcoming innovation from Kellogg includes limited-edition Dunkin’ Donuts inspired Pop-Tarts in vanilla latte and chocolate mocha flavors.

BATTLE CREEK, MICH. — Kellogg Co. delivered mixed results in the recent quarter, with earnings and profit margin expansion ahead of expectations tempered by a disappointing top-line performance. Net income in the third quarter ended Oct. 1 was $292 million, equal to 83c per share on the common stock, which was up from $205 million, or 58c per share, in the prior-year period. Net sales were $3,254 million, down 2.2% from $3,329 million.

While earnings benefited from a lower tax rate and planned savings from productivity, Project K and zero-based budgeting initiatives, sales were negatively affected by trade-inventory reductions in U.S. cereal, a challenging market in the United Kingdom, and portfolio transformations in the company’s frozen and Kashi businesses that have taken longer than anticipated to execute.

John Bryant, Kellogg
John Bryant, chairman and c.e.o. of Kellogg

“But we do see growth and sequential improvement in many parts of our business,” said John Bryant, chairman and chief executive officer, during a Nov. 1 earnings call with financial analysts. “Behind the numbers there’s great progress being made, not only against our strategy as represented by our 2020 growth plan, but also against the key business priorities we laid out for you one year ago at our Day at K investor event.”

Cheez-It Duoz and Special K protein snack bars, Kellogg
Kellogg plans to launch new Cheez-It Duoz and Special K snack bar varieties.

Those priorities in North America have included stabilizing cereal, revitalizing snacks, transforming the Kashi and frozen food businesses, and driving fuel for growth. The latter refers to expansion in gross margin and currency-neutral operating profit margin through Project K network restructuring and shared services model and zero-based budgeting.

During the third quarter, Kellogg North America net sales declined, but operating profit increased on the strength of cost savings through Project K and zero-based budgeting.

Paul Norman, Kellogg
Paul Norman, president of Kellogg North America

“Stabilizing our cereal business was our priority; while the category has held at a 1% rate of decline, this is significantly better than in recent years,” said Paul Norman, president of Kellogg North America. “We have invested in food. We have prioritized investment behind our core brands, and we have gained share as a result. We are particularly pleased with how we stabilized Special K.”

In snacks, year-to-date consumption has grown for Cheez-It, Club and Town House crackers, Rice Krispies Treats and Pringles, with double-digit growth in on-the-go offerings.

Kellogg crackers - Cheez-It, Club, Town House
In snacks, year-to-date consumption has grown for Cheez-It, Club crackers and Town House crackers.

“Frozen and Kashi are still works in progress,” Mr. Norman said. “Much of the heavy lifting has been done, with packaging overhauls now largely behind us in frozen, and Kashi’s transformation of its portfolio already is contributing to stabilization in cereal. We have plans to stabilize our other Kashi categories, too.”

In the third quarter, U.S. Morning Foods operating profit increased 6%, while net sales declined 4%.

To deliver sequential improvement in net sales and strong operating profit margin expansion in the U.S. Morning Foods segment next year, Kellogg is investing in on-trend food, with a focus on its top brands, leveraging new capabilities to win in store, and boosting margins through productivity and revenue growth management. Forthcoming innovation includes limited-edition Dunkin’ Donuts inspired Pop-Tarts in vanilla latte and chocolate mocha flavors, Kellogg’s Cinnamon Frosted Flakes cereal and Special K Nourish crispy granola with quinoa.

Special K Nourish granola, Cinnamon Frosted Flakes, Kellogg
Kellogg’s Cinnamon Frosted Flakes cereal and Special K Nourish crispy granola with quinoa are set to launch next year.

The U.S. Snacks segment operating profit advanced 12%, and sales were flat in the third quarter, as Special K bars and cracker chips dragged on segment performance.

“For snacks, our goal next year is to return to top-line growth, while further improving our margins,” Mr. Norman said. “Deanie Elsner (president, Snacks) and her team will continue to drive the agenda they began this year, focusing behind our core brands like Cheez-It, Pringles, and Rice Krispies Treats. And they will continue to do this through a combination of more impactful brand building, innovation and renovation of food and packaging, in-store excitement, and small formats to drive consumption in new occasions through expanded distributions.”

Launching next year are Special K Protein Bites, Cheez-It Sandwich Crackers and Pringles Loud corn chips in such flavors as spicy queso and cheesy Italian.

Pringles Loud, Kellogg
Launching next year are Pringles Loud corn chips in such flavors as spicy queso, salsa fiesta and cheesy Italian.

“In the first quarter, we will be executing a comprehensive restage of Special K Bars behind new food, packaging, and communication and bringing significant renovation and innovation to Nutri-Grain, also,” Mr. Norman said.

U.S. Specialty Channels operating profit in the third quarter increased 8%, and net sales rose 1%, driven by growth in key brands and channels.

“We plan to take advantage of category growth trends and to further leverage new food and packaging formats to drive brand ubiquity and reach across our core channels,” Mr. Norman said. “We will leverage emerging channels to test and learn, just as we have been doing this year with Bear Naked Custom Granola and direct-to-consumer and in partnered innovation with restaurant chains.”

Special K Bites, Kellogg
Kellogg plans to introduce Special K Nourish Bites and Special K Protein Bites.

Third-quarter operating profit in the North America Other segment, which includes U.S. frozen foods, Canada and Kashi, fell 13%, and net sales declined 6%, due to the volume impact of price increases in Canada and continued impacts of portfolio rationalization and food and packaging transitions.

“We thought these transitions would be fully behind us by Q3, but they are taking longer than we had expected,” Mr. Norman said. “In frozen, we recorded good profit margin expansion, but (we are) disappointed on the top line. Eggo posted sales growth, with particular success in the quarter, behind the Disney licensed products, but this was more than offset by the impacted distribution lost on MorningStar Farms, as we transitioned over the past few quarters to new packaging.

Morningstar Farms new products, Kellogg
MorningStar Farms experienced a distribution loss due to a transition to new packaging.

“At Kashi, we are encouraged by the stabilization we are seeing in cereal share in measured channels as well as the plus 5% growth in the natural channel. It means our substantial innovation and renovation efforts are starting to take hold, and we really haven’t turned on broad-scale consumer communication yet. So cereal is on its way, even if it is still down year on year.

“However, wholesome snacks is proving to be a much bigger drag on sales than we had anticipated. Consumption has declined sharply as distribution losses have continued prior to renovation and innovation interventions coming in 2017.”

The company expects to see a return to top-line growth in the North America Other segment next year, in part driven by such new products as Kashi Chewy Nut Butter Bars and Eggo waffles without artificial colors and flavors.

Eggo waffles with no artificial colors or flavors, Kashi nut butter bars, Kellogg
Kellogg expects to see a return to top-line growth in the North America Other segment next year, driven by such new products as Kashi Chewy Nut Butter Bars and Eggo waffles without artificial colors and flavors.

“There has been a ton of work behind the scenes this year in Kellogg North America, all aimed at getting our portfolio more on-trend, enhancing our capabilities and execution, and improving profitability,” Mr. Norman said. “While our top-line growth hasn’t consistently reflected these efforts yet, it is coming, and we are seeing sequential improvement to go with impressive margin expansion. We are making definitive progress toward the 400 to 450 basis points of operating margin improvement we are targeting through 2018.”

Overall, year-to-date net income at Kellogg Co. was $747 million, equal to $2.13 per share, up from $655 million, or $1.85 per share, in the comparable period. Net sales were $9,917 million, down 4.5% from $10,383 million.
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