Should I Buy Kellogg Stock? 3 Pros, 3 Cons

by Tom Taulli | November 4, 2013 12:28 pm

Investors’ appetite for Kellogg (K[1]) continued today, with Kellogg stock up about 4%.

Yet for the third quarter, Kellogg earnings were actually mixed. The company posted flat sales of $3.7 billion, which was in-line with Wall Street expectations. But earnings increased by 2.5% to $326 million, or 90 cents a share. The analysts’ consensus was for 89 cents. But after excluding one-time items, Kellogg earnings came to 95 cents a share.

But perhaps the biggest factor moving Kellogg stock today was the announcement of a restructuring program.  It could lead to juicier profits over the next few years.

So is it time to buy Kellogg stock? Or should investors hold off? To see, let’s take a look at the pros and cons:

Pros on Kellogg Stock

Brand portfolio. It’s extensive. Some of Kellogg’s franchise brands include Corn Flakes, Keebler, Eggo and Rice Krispies.

But of course, Kellogg has expanded its portfolio using savvy acquisitions.  Just look at its purchase of Pringles, which was owned by Proctor & Gamble (PG[2]). With the transaction, Kellogg got a big foothold in the lucrative snacks category, with top brands like Pop-Tarts and Cheez-Its.

But over the years, Kellogg has struck some other key deals, such as for Morningstar Farms, Nutri-Grain and Kashi.

Restructuring. Called “Project K,” Kellogg announced a wide-ranging effort to realize efficiencies. The projection is for reductions of $425 million to $475 million by 2018. But to achieve this, Kellogg has announced a 7% slashing of its global workforce. It looks like a big target for cuts will be in the supply chain.

This is certainly a tough decision. But to remain competitive, Kellogg had little choice. Kellogg says it will still invest in key parts of its business, such as R&D, brand building and emerging markets.

Dividend. Kellogg stock has a juicy yield of 3%. And there should be little risk of a cutback as Kellogg continues to generate healthy cash flows. For the full-year, they are expected to total between $1.1 billion to $1.2 billion (this includes the costs of Project K.

Something else: Kellogg has paid a dividend since 1925.

Cons on Kellogg Stock

Debt. Kellogg’s leverage is on the high side. Keep in mind that long-term debt is a hefty $6.3 billion. There is also outstanding pension liabilities of $886 million. All this compares to about $2.8 billion in equity.

Even though Kellogg’s strong cash flows should be enough to support the overall liabilities, there may still be a problem. That is, the company may not have much firepower to use debt financing for acquisitions.

Valuation. Kellogg stock is far from cheap. The current price-to-earnings ratio is at 24X, which is well above some of its peers. General Mills (GIS[3]), for example, has a multiple of 18X and Kraft Foods (KRFT[4]) is trading at 17X.

Consumer shift. The cereal business, which accounts for over 30% of overall revenues for Kellogg, is feeling pressure. The fact is that older and affluent consumers have been looking at alternatives. For example, Greek yogurt, smoothies and breakfast sandwiches have become quite popular.

At the same time, the competitive environment in the cereal market is also intense. Companies like General Mills have been aggressive with discounting and promotions.

Verdict on Kellogg Stock

Kellogg has some troublesome headwinds, as seen with the competition and sluggishness with the core cereal business. But the good news is that the company is taking swift actions to restructure its cost structure. The result should be higher cash flows, which will allow for a robust dividend and share buybacks in Kellogg stock. There will also be opportunities to pursue more acquisitions.

Kellogg is also positioned nicely for the megatrend of healthier eating habits. The company’s brands like Morningstar Farms, Nutri-Grain and Kashi have become synonymous with the category.

So then should you buy Kellogg stock? Yes — if you’re looking for a fairly low-risk, high-dividend-paying option for your portfolio, the pros certainly outweigh the cons.

Tom Taulli runs the InvestorPlace blog IPO Playbook[5]. He is also the author of High-Profit IPO Strategies[6]All About Commodities[7] and All About Short Selling[8]. Follow him on Twitter at @ttaulli[9]. As of this writing, he did not hold a position in any of the aforementioned securities.

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