Why Hershey and Mars Should Not Fear Cocoa Price Surges

NEW YORK (TheStreet) –– With cocoa prices on the rise since 2013, most U.S. confectioners have started to hike prices of chocolate bars and candies. It is unlikely that these higher prices will translate into lower demand, though. Widespread chocolate cravings should allow chocolatiers to shift higher cocoa costs to consumers without seeing a considerable drop off in sales. Just look at Chipotle Mexican Grill (CMG) as an example of how this works.

Mars Chocolate North America, the maker of M&M's and Snickers,  said on Wednesday that it planned to raise prices by an average of 7% "to offset rising costs," its first increase in three years. The price hike by Mars follows Hershey's  (HSY), the No. 1 candy maker in the United States, which said last week that it too would raise prices on chocolate, up close to 8%, due to soaring commodity costs.

The iPath DJ-UBS Cocoa TR Sub-Index ETN  (NIB), a funds that gives investors exposure to the Dow Jones-UBS Cocoa Sub Index and that consists of one future contract on the commodity if cocoa, has experienced a meteoric rise since the beginning of last year. Increased demand for cocoa and supply concerns in West Africa have led commodity traders to bid prices up.

NIB Chart

NIB data by YCharts


The impact of rising input costs will affect several companies with ties to chocolate, such as Hershey, Tootsie Roll Industries (TR), Rocky Mountain (RMCF), Cadbury-maker Mondelez International (MDLZ)and Butterfinger-maker Nestle (NSRGY).

But higher prices, however, do not necessarily mean top line growth will be adversely affected. If confectioners are worried about higher input costs, Chipotle Mexican Grill is an example of how inelastic demand for a product can mean higher revenue.

Chipotle shares soared over 11% this week after reporting revenue rose 28% to $1.05 billion last quarter, surpassing analysts' estimates, as higher prices boosted the top line. The burrito-maker had to increase prices earlier this year as the cost for key ingredients such as steak, cheese and avocados have all risen sharply due to bad weather in many parts of the country.

Price hikes didn't take a toll on store traffic as same-store sales, a key measure of growth, increased 17% in the second quarter. It was one of the strongest quarterly sales rates in Chipotle's history as a public company, according to CEO Steve Ells. Chipotle has benefited from increased demand for healthier fast-food that is less expensive than what is available at traditional sit-down restaurants, analysts said.

Chipotle has gained cult-like followers in recent years as its organic products, and over-sized burritos have become a staple in cities across the country.

Similarly, chocolate has a cult-like following of its own, from candy bars to spreads to product. When demand is strong enough, regardless of price swings, industries have the luxury of raising prices without seeing a considerable drop off in sales. If chocolate proves to be as inelastic to consumers as Chipotle's burritos, revenue could expand throughout the rest of the year.

At the time of publication, the author had no positions in any of the stocks and the funds mentioned, although positions may change at any time.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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