Another Soggy Quarter at Kellogg

Earnings beat estimates, but one analyst isn't persuaded.
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Kellogg (K) - Get Report today released third-quarter earnings that beat analysts' expectations, but the breakfast giant's operating performance continues to appear murky at best.

For the third quarter ended Sept. 30, net earnings, excluding restructuring and disposition charges, rose to $170.8 million, or 42 cents a diluted share, from $141.9 million, or 35 cents a share, a year earlier. Sales rose to $1.86 billion from $1.80 billion a year ago. The consensus estimate of analysts polled by

First Call/Thomson Financial

was 41 cents a share.

The company's stock was last up 7/8 to 40 7/8.

However, the improvement in earnings per share over last year is deceptive, since EPS remains below 1997's third-quarter figure of 52 cents. Also, the latest quarter's operating data exclude a write-off that totaled 50 cents a share. "This is their tenth write-off in 15 quarters, with another expected in the fourth quarter and more next year," said William Leach, food analyst at

DLJ

. "When there are so many charges, you lose track of the operating trends." Leach rates the stock an underperform and his company has not participated in any underwriting for the company.

The company recorded charges to earnings totaling $206.4 million after taxes, or 50 cents per share, during the quarter. Those charges are associated with the sale of the

Lender's Bagels

business and its interest in a U.K. corn-milling operation, as well as the closure of part of its Battle Creek, Mich., cereal plant. Including these charges, third-quarter losses totaled $35.6 million, or 8 cents a share.

The domestic cereal business has been flat, hurting Kellogg's bottom line. "The category is pretty stagnant and it's been losing market share for decades, from half the market about 30 years ago to 29% today," added Leach. U.S. cereal volume shrank 2% in the latest quarter, in comparison to increases of 2% in the international business and 15% in the noncereal business, which includes toaster pastries, breakfast and snack bars and frozen waffles.

In a statement, Carlos Gutierrez, president and chief executive of Kellogg, said, "The quarter also was marked by another solid performance from our broadening line of convenience foods. Our noncereal business is being further strengthened by the pending acquisition of

Worthington Foods

." Worthington is a leading manufacturer and marketer of soy protein-based meat alternatives and other healthful foods.

The company is clearly in a recovery mode, with Gutierrez, who took over in April from Arnold Langbo, cutting costs in the U.S. and Europe. Commented Leach, "Kellogg has a very high valuation of 27 times earnings, the highest of any food stock, while volume is declining in their core business. The company has to step up spending, but then typically earnings will have to come down."