Not All Food Stocks Are Created Equal

How do you fight food inflation? The traditional answer for many investors is
to own defensive stocks like food companies, whose products will always be in
demand no matter the economic cycle. That strategy used to be pretty solid. The
difficulty today is that these same companies face input costs that are rising
faster than historical norms, in many instances forcing them to increase prices
substantially. And not every company will successfully pass on these costs to
their customers . As a result, investors need to reevaluate the traditional
strategies used to fight food inflation. Lets explore the potential ways
investors can profit from the inevitable. It used to be that you couldnt go
wrong owning a cereal manufacturer like Kellogg (NYSE: K ) or General Mills
(NYSE: GIS ). Its not quite that simple these days. General Mills announced
first-quarter results Sept. 21 that were anything but special. While sales grew
9% in the quarter, operating profit dropped by 3% year-over-year, thanks to
significantly higher input costs this after General Mills raised prices 7% in
its largest segment, U.S. retail. As expected, higher prices resulted in lower
volume. Now, think back to 2008 when the recession hit. Many consumers switched
to private-label grocery-store brands. Should cereal manufacturers continue to
hike prices, watch for a return to private-label brands. The chief beneficiary
would be Ralcorp Holdings (NYSE: RAH ), one of the largest producers of
private-label food in the country. Ralcorp also happens to own Post Holdings,
the maker of Post-branded cereals that will be spun off later this year. But
forget cereal for a moment. Lets think about other food- and beverage-related
companies. Since J.M. Smucker (NYSE: SJM ) bought Folgers from Procter & Gamble
(NYSE: PG ) in 2008, its become just as well-known for its coffee as its jellies
and jams. How is it handling rising food prices? Immediately, it seems not so
well. Smuckers second-quarter net income fell 15% large part because of a 30%
increase in commodity costs. To counter these increases, SJM too has raised
prices, in some cases as high as 30%. Most of Smuckers necessary price hikes
already have been implemented, and it appears by the time theyre fully imposed
by next April, commodity costs likely will have eased. Still, Smuckers price
hikes resulted in an 18% increase in quarterly revenue, offset by a volume
decrease of 1%. So in the long term, Smucker appears to be doing a reasonable
job dealing with rising costs. Since acquiring Folgers, its stock has been on a
tear, up 50% better than any of the companies mentioned above. Who knew it was
coffee not cereal we couldnt live without? By now, most investors are aware
that Kraft (NYSE: KFT ) is splitting in two. Kraft feels shareholders will
benefit from separating its U.S. grocery business from its international snack
business, which includes Cadbury. In September, I chronicled the reasons KFT
shareholders shouldnt wait for the post-spinoff benefits to kick in. Since then,
Kraft has reported strong earnings despite $1.7 billion in commodity cost
increases year-to-date. Krafts customers arent balking at price increases that
will continue through the first half of 2012. New products and more effective
advertising are two reasons Kraft has been able to keep upping the ante. Of all
the big food companies, Kraft is doing the best job dealing with volatile
prices. Possible Alternatives Of course, you can find other ways besides
traditional food businesses to take advantage of the food production pipeline.
For instance, take a look at wheat. While gluten-free products are popping up in
grocery stores which is good for companies like Smart Balance (NASDAQ: SMBL )
most diets still include wheat. As the global demand for wheat and other
agricultural foods becomes increasingly greater, fertilizers are increasingly
necessary to help speed the growing process. Two companies that stand to benefit
from increasing crop demand are agricultural biotech company Monsanto (NYSE: MON
) and fertilizer specialist CF Industries (NYSE: CF ). Of the two, CF Industries
is more likely to benefit from the growing global requirement for food. Of
course, before wheat comes out of the field, it has to be harvested. Thats where
John Deere & Co. (NYSE: DE ) comes into play. The maker of the iconic
green-and-yellow farm machines also is facing higher input costs, but its having
no problem increasing revenue.