Heinz Merger with KRFT Is Just What the Sector Needs

If nothing else, the mega-merger between Kraft Foods Group Inc (NASDAQ:KRFT) and H.J. Heinz Co. gives investors a reason to care about big, branded food stocks again.

Kraft foods  (NYSE:KRFT)No, this deal isn’t going to invigorate the industry’s almost nonexistent growth rate, but it does put packaged-food companies in play. That’s always good for share prices (KRFT stock was up 39% at midday trading).

And, man, does this sector need the help.

Packaged-food companies never quite made it back from the Great Recession. Lots of consumers who traded down for cheaper store brands never switched back once the economy picked back up. At the same time, there’s a trend — especially among younger shoppers — to ditch packaged foods in favor of fresher, more healthful offerings.

As a result, packed-food companies have gone into a state of suspended animation when it comes to top-line growth. At Kraft Foods, full-year revenue has been stuck at a bit more than $18 billion for four years now and is projected to stretch into a fifth. Indeed, the last time KRFT generated any revenue growth was in 2011, when it grew 1% year-over-year.

And Kraft is hardly alone in going nowhere fast. Look at Nestle SA (ADR) (OTCMKTS:NSRGY), Campbell Soup Company (NYSE:CPB), J M Smucker Co (NYSE:SJM), General Mills, Inc. (NYSE:GIS), Mondelez International Inc (NASDAQ:MDLZ) — the list goes on. Most of the biggest packaged-food companies in the world are stuck in a multi-year period of essentially zero sales growth.

That doesn’t just make industry consolidation a matter of good thinking. It could also be a matter of survival.

A Good Deal for KRFT

It also gives shareholders their best chance at enjoying some decent price performance in ages. Kraft stock has struggled to even market perform since the split that created Mondelez three years ago. And yet KRFT jumped more than 33% on the merger news.

There’s little wonder why. This looks like a fine deal for anyone who holds Kraft stock. Shareholders will receive stock in the new publicly traded company to be known as Kraft Heinz, and will receive a special cash dividend of $10 billion, or $16.50 a share. KRFT shareholders will end up owning 49% of the new company.

Meanwhile, it’s all but impossible to find a big packaged-food company stock that hasn’t underperformed the market by a wide margin over the last couple of years. Top-line growth just isn’t happening, so the only way to increase earnings is to slash costs — and if there’s one thing mergers and acquisitions are good for, it’s cutting costs.

So-called synergies really do abound between packaged-food companies. From sourcing to distribution, they have the same suppliers and customers. The potential savings are real.

At the same time, packaged-food companies can’t generate organic sales growth, so they have no option but to buy it. Throw in the cost savings afforded by a merger and the new company can have wider margins on a much bigger revenue base.

That’s a compelling argument for packaged-food companies to partner up, and now that Kraft Foods and Heinz have done so, this could be just the spark the industry needs. After all, deals tend to beget deals. It’s as if no one want to be left without a date to the prom.

As for investing in Kraft Foods now, well, most of the price upside looks to have been made in the opening minutes of the session, but the special dividend still looks good.

Just be forewarned that your fat special dividend check comes with a booby prize: You’ll still be a shareholder in a big, packaged-food company stock.

As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.

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Article printed from InvestorPlace Media, https://investorplace.com/2015/03/heinz-merger-with-krft-is-just-what-the-sector-needs/.

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