Kraft Foods Reports Strong Operating Momentum in Third Quarter

"Kraft had a strong quarter in a difficult environment," said Irene Rosenfeld, Chairman and CEO. "Our operating momentum continued with solid top- and bottom-line contributions from all geographies".

30/10/08 Kraft Foods Inc. reported third-quarter 2008 results that reflected continued improvement in business fundamentals as the company executes its three-year turnaround plan. Strong organic net revenue growth was driven by pricing actions to offset significantly higher input costs. Reported earnings per share increased in the third quarter primarily due to a one-time gain from the exit of the Post cereal business. Earnings per share excluding items were equal to prior year as strong gains from continuing operations were offset by higher interest expense and lower earnings from discontinued operations. In addition, the company's commodity hedging activities negatively impacted the current quarter by approximately $180 million, about 18 percentage points of EPS growth, offsetting benefits recognized earlier in the year.

"Kraft had a strong quarter in a difficult environment," said Irene Rosenfeld, Chairman and CEO. "Our operating momentum continued with solid top- and bottom-line contributions from all geographies. I am especially pleased that our volumes in the third quarter held up better than expected, despite significant cost-driven price increases and an unsettled economic environment.

"As family budgets are squeezed, our ongoing programs to add value to our products through investments in quality, marketing and innovation are paying off. Consumers are increasingly coming home to Kraft for delicious food and great value. As a result, we remain confident that we will deliver our 2008 commitments, with strong momentum going into 2009."

-- Net revenues: Third quarter net revenues increased 19.4 percent to $10.5 billion. The LU biscuit acquisition added 9.3 percentage points to net revenue growth that was partly offset by a 0.9 percentage point impact from divestitures. Net revenue growth also benefited from a 3.9 percentage point gain from currency.

Excluding these factors, organic net revenue growth was 7.1 percent. Pricing contributed 8.4 percentage points, unfavorable mix reduced net revenue by 0.4 percentage points and volume was down 0.9 percent, reflecting the impact of significant cost-driven pricing actions.

-- Operating income: Reported operating income in the quarter increased 17.1 percent from the prior year to $1.0 billion. Operating income excluding items increased 14.2 percent versus the prior year. The benefits of the LU biscuit acquisition, strong organic revenue growth, and associated overhead cost leverage more than offset significantly higher input costs and the previously anticipated impact of certain commodity hedging activities. The company's commodity hedging activities negatively impacted the current quarter by approximately $180 million, offsetting benefits recognized earlier in the year. This includes approximately $140 million of unrealized losses from commodity hedging activities and approximately $40 million of realized commodity hedging gains recorded in prior quarters.

-- Tax rate: Kraft's reported tax rate in third quarter 2008 was 26.0 percent. Excluding items, the third quarter rate was 29.2 percent compared to 30.7 percent in third quarter 2007, reflecting the geographic mix of earnings, recent legislative changes and several discrete items.

-- Earnings per share: Third-quarter 2008 reported earnings per share were $0.93, up from $0.38 in third quarter 2007. During the quarter, the company recorded a $0.57 gain related to the exit of the Post cereals business. The company also incurred $0.07 per share in asset impairment, exit and implementation costs, compared to $0.06 in the same quarter a year ago.

Excluding items, third-quarter 2008 earnings per share were $0.44, equal to third quarter 2007. Compared to the prior year, earnings per share excluding items reflected a $0.13 contribution from operational gains, a $0.02 contribution from lower shares outstanding, a $0.01 benefit from currency, and a $0.01 benefit from a lower effective tax rate. These gains were offset by $0.06 in unrealized losses from certain commodity hedging activities, a $0.06 negative impact from higher interest expense, and a $0.05 decline in earnings from discontinued operations. In addition, the $0.13 contribution from operational gains in the quarter was negatively impacted by $0.02 due to the benefits of commodity hedging gains recognized in prior quarters.

Organic net revenues grew 7.4 percent reflecting gains from cost-driven pricing as well as volume growth across coffee, ready-to-drink beverages and powdered beverages. Growth in coffee was attributable to share gains in mainstream coffee behind the continued success of the Maxwell House restage as well as double-digit growth in Tassimo on-demand coffee that was partially offset by softness in premium coffee. Share gains from improved marketing and quality improvements in Capri Sun Roarin' Waters and 100% Juice offerings and Kool-Aid contributed to ready-to-drink beverage growth. Powdered beverage revenue grew in the quarter due to the continued success of value-oriented consumer programs behind Kool-Aid. Operating income excluding items declined 1.8 percent as the benefit of price increases and volume growth was more than offset by higher input costs and, to a lesser extent, unfavorable product mix.

U.S. Cheese

Organic net revenues grew 7.0 percent reflecting significant, cost-driven price increases that were partially offset by lower volume and unfavorable product mix. Volume gains from new products such as Kraft Bagel-fuls were more than offset by volume weakness related to cost-driven price increases as well as planned volume declines in the lower-margin natural cheese business. Operating income excluding items increased 68.9 percent in the third quarter versus a weak third quarter last year. During the quarter, pricing more than offset the impact of higher input costs, lower volume and unfavorable product mix as the benefits of past pricing actions began to catch up to the escalation of costs experienced during prior quarters.

U.S. Convenient Meals

Organic net revenues grew 8.6 percent driven by cost-driven price increases and favorable product mix. Strong results for DiGiorno and California Pizza Kitchen pizzas, including the launch of the "For One" line of individual size pizzas, as well as ongoing gains from Oscar Mayer Deli Fresh meats and Oscar Mayer Deli Creations sandwiches drove revenue growth. Operating income excluding items declined 5.8 percent as pricing actions lagged input cost increases, unfavorable mix and higher marketing and overhead expenses.

U.S. Grocery

Organic net revenues grew 5.9 percent primarily due to cost-driven pricing. Significant volume and mix gains were achieved from marketing the value proposition of Kraft macaroni and cheese and Jell-O dry packaged desserts. Lower volumes of pourable and spoonable salad dressings related to cost-driven price increases partially offset the gains. Operating income excluding items increased 5.0 percent as gains, primarily from organic revenue growth, more than offset higher input costs.

U.S. Snacks

Organic net revenues grew 4.1 percent as pricing more than offset lower volume and unfavorable product mix. In biscuits, investments in quality and marketing behind core brands such as Oreo, Chips Ahoy!, and Ritz, as well as the success of new Kraft Macaroni and Cheese crackers, contributed to strong revenue gains in the quarter. These gains were partially offset by revenue declines in snack bars, due in part to product pruning, and to a lesser extent, pricing-related volume weakness in snack nuts. Operating income excluding items increased 3.6 percent driven by the benefits of price increases, the timing of marketing expenditures and lower overhead costs. The gains more than offset higher input costs, as well as the impact of lower volume and unfavorable product mix. In addition, results were negatively impacted by approximately $25 million, or about 15 percentage points of growth, due to the benefits of commodity hedging activities recognized in prior quarters.

Canada & North America Foodservice

Organic net revenues grew 4.5 percent behind cost-driven pricing as well as volume growth. Canada drove volume gains from improved in-store execution as well as investments in marketing and innovation. Foodservice net revenues were relatively flat as gains from new product innovation were more than offset by lower volume from the pruning of lower-margin businesses and unfavorable product mix due in part to a slowdown in casual dining traffic. Operating income excluding items grew 20.9 percent as the benefits of pricing, volume growth and lower overhead costs more than offset higher input costs.

European Union

Organic net revenues grew 1.8 percent reflecting cost-driven pricing actions that more than offset a volume decline due partly to product pruning activity. Further investments in marketing and innovation behind the Milka brand drove solid volume growth in chocolate. Ongoing investments in the Philadelphia brand drove cheese growth in the quarter while coffee revenue declined modestly as gains in Gevalia and Tassimo were offset by planned volume losses in less profitable brands. Additionally, the LU biscuit business delivered 4.5 percent like-for-like growth in the quarter. Operating income excluding items grew 76.5 percent, including a 59.1 percentage point contribution from the acquisition of the LU biscuit business. The benefits of higher pricing, favorable product mix and lower marketing investments and overhead costs more than offset higher input costs and lower volume.

Developing Markets

Organic net revenues grew 19.1 percent driven by strong results in every region. Successful investments in chocolate and coffee drove significant volume and revenue growth across all key markets in the Eastern Europe, Middle East & Africa region. Latin American growth was driven by pricing gains in biscuits in Venezuela, growth in chocolate and biscuits in Argentina and strong performance in Brazil that was aided by a value-added tax credit. Revenues in the Asia Pacific region grew due to pricing gains across key markets. Operating income excluding items increased 55.2 percent, including a 4.8 percentage point benefit from the acquisition of the LU biscuit business. The primary drivers of the strong increase in operating income in the quarter were pricing, a value-added tax credit in Brazil and favorable product mix that more than offset higher input costs, increased marketing investments and overhead costs.