On Feb. 11, Kraft Heinz reported financial results for the fourth quarter and full year of fiscal 2020.
For the year, organic net sales increased by 7% to $26.2 billion, with top-line growth attributable to a mix of higher volumes and net pricing. The results were led by the United States, where sales and adjusted Ebitda increased 8% and 15%, respectively, in 2020 (for the company as a whole, adjusted Ebitda increased by 10% in 2020 to $6.7 billion).
Growth in the U.S. reflected heightened at-home consumption as a result of the pandemic, partially offset by declines in foodservice. Importantly, as outlined by management, this strength doesn't simply reflect market tailwinds. In the fourth quarter, Kraft Heinz gained retail market share in categories that account for nearly half of its U.S. revenues, roughly 30 points higher than in the first half of the year.
As management highlighted during a recent presentation, part of this resurgence reflects a higher level of investment in the brands. Total marketing spend for Kraft Heinz in the United States increased double digits in 2020. In addition, the company reduced the number of SKU's offered by nearly 20%, which ensures greater focus on the core brands. While it's still the early days for this new strategy, the improvement in market share trends reported over the past six months is an encouraging start.
In the International segment, organic net sales increased by 5% in 2020, reflecting 3% growth in developed markets and 7% growth in emerging markets (organic revenues were roughly flat in Canada, with the region facing a five point headwind from the McCafé exit). Brazil and Russia were bright spots for Kraft Heinz in 2020, with organic net sales increasing double digits. Constant currency adjusted Ebitda in the International segment increased 8% for the year, with outsized growth relative to revenues reflecting the bottom line impact from pricing gains.
For the year, adjusted earnings per share (EPS) increased by 1% to $2.90 per share. Cash flow from operations increased by nearly 40% to $4.9 billion, reflective of improved profitability (Ebitda growth) and favorable changes in working capital. As a result, free cash flow increased by more than 50% to $4.3 billion, or $3.50 per share.
Capital returns to shareholders for the year totaled $2.0 billion, entirely due to the dividend (at the stock price of $37 per share, the dividend yield is 4.3%).
At year's end, the net leverage was 3.7 times cash, a meaningful improvement from 4.4 times at the end of 2019 (and that's before considering the proceeds from the divestiture of the nuts and natural cheese businesses, which could reduce leverage another half turn). Importantly, the company's debt is relatively cheap (4.3% weighted annual interest cost) and well structured (14 years weighted average maturity). Over the next four years, maturities average $825 million a year, compared to 2020 Ebitda of $6.7 billion. Clearly, the financial situation is manageable in the short-term.
Conclusion
Looking ahead, management believes that the business is in position to deliver at least a low single digit increase in organic net sales and adjusted Ebitda in 2021. In addition, they believe that growth in sales and profitability will continue over the next few years as a streamlined product portfolio and higher marketing investments have an impact of business results.
Personally, while there's some reason for optimism, I also question whether Kraft Heinz is completely out of the woods. While the business has experienced material short-term benefits as a result of the pandemic, and it appears that this tailwind will remain for the foreseeable future, I think it will eventually fade. When it does, it's my expectation that even maintaining low single digit organic revenue growth in markets like the United States will be challenging (as shown below, the company struggled to report organic sales growth with any consistency in the U.S. before the pandemic).
While the stock does not appear to be too expensive at roughly 11 times trailing earnings, the company's long-term growth prospects – even if they are able to meet management's targets – appear to leave investors with a low probability of a great outcome over the next decade.
Said differently, the stock may offer the prospect of mid-to-high single digit annualized returns, but it's difficult for me to see how they can deliver much more than that. As a result, I recently decided to exit my position in Kraft Heinz. Instead of trying to win the last war, I took my lumps on this failed investment and will look to reinvest the proceeds elsewhere.
Disclosure: None
Read more here:
- PepsiCo: A Solid Finish to 2020
- Yelp: Despite a Tough 2020, There Is Reason for Optimism
- Under Armour: Are the Clouds Parting?
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