Kraft’s Brazil Chocolate Seen as Template After Spinoff: Retail

Investors searching for insights into Kraft Foods Inc.’s (KFT) strategy once it splits in two this year may want to consider a 100-year-old Brazilian chocolate brand called Lacta.

During the past five years, Kraft has turned Lacta into the top-selling chocolate brand in Brazil, ahead of the Nestle brand and a local contender called Garoto. Now the Northfield, Illinois-based company plans to use Lacta and nine other well- known brands to lead growth in emerging markets after the more sedate U.S. grocery business is spun off, said Sanjay Khosla, Kraft’s executive vice president of emerging markets.

“The strategy we took with Lacta is very similar to what we’ve done with other developing-market power brands like Oreo, Tang and Cadbury,” Khosla said. “The whole game is about focusing on where you can win. For Lacta, that meant investing big-time in marketing and expansion.”

Food companies have struggled to cope with slow growth and high commodity prices in the U.S. Companies like Kraft and Pittsburgh-based H.J. Heinz Co. (HNZ) are looking overseas. In the third quarter ended Sept. 30, Kraft boosted revenue 12 percent to $13.2 billion; 54 percent of those sales were generated outside North America and 30 percent from emerging markets.

Kraft shares fell 0.39 percent to $38.32 at 9:32 a.m. in New York. They advanced 19 percent last year, compared with a 10 percent gain for the S&P 500 Consumer Staples Index.

Following the spinoff, the $16 billion-a-year U.S. Grocery unit, as it is currently known, will pay a higher dividend to make up for slower growth. Global Snacks, which will generate about $32 billion in revenue a year, will have a lower payout so it can invest in overseas brands. Emerging market sales will account for 42 percent of revenue in the new company.

Global Snacks

Global Snacks will grow 17 percent this year and 10 percent annually after that, Thilo Wrede, an analyst with Jefferies & Co in New York, said in a phone interview. By comparison, the grocery unit will achieve 3 percent growth at best, according to his estimates. Still, for Global Snacks to become a hot growth story, it may need to divest slower growing businesses, Wrede said.

“It’s a little bit wait-and-see right now,” he said. “The international grocery business is one-quarter of Global Snacks, so it will lower growth rates.”

Kraft came up with the “power brands” strategy four years ago. Tang breakfast drinks is the largest developing markets brand in the portfolio, with $1 billion in annual sales. Jacobs Coffee, which is concentrated in Europe, is the second largest brand.

Largest Brazilian Brand

Lacta, which is No. 3, is Kraft’s largest Brazilian brand. Its sales accounted for about one-third of Kraft’s Brazil revenue and posted 34 percent gross margin, Khosla said.

Kraft’s largest emerging market is Brazil, where real income rose 10 percent in the 12 months ended Nov. 30, according to Bloomberg Data.

“The emerging middle class will be a huge factor,” said Matt Arnold, an analyst with Edward Jones & Co. in St. Louis. “Affordable luxuries like packaged chocolate are growing well.”

When Kraft acquired Lacta in 1996, its previous owner was on the verge of shutting a chocolate factory that made candy specifically for the Easter holiday -- big business in Brazil. Chocolatiers spend six months building inventory for the holiday, and Easter chocolate fetches three times as much per kilo than regular bonbons, Khosla said.

While Kraft rescued the plant and invested in the Lacta business, it wasn’t until 2007 that Kraft made it a “power brand,” Khosla said.

Borrowed Innovation

The company borrowed an innovation in 2008 from its European Milka brand, a resealable package that lets consumers keep the product fresh. The package clings to itself and preserves the chocolate. That helped sales.

The next step was to move Lacta beyond basic chocolate bars. While Khosla focused on overall strategy, his Brazilian team, led by Latin America President Gustavo Abelenda, explored local tastes and looked for something enticing. Research showed Brazilians craved more decadence in their bon-bons.

“We asked, ‘What would delight you?’” Khosla said. “They said they wanted something that melts in their mouth.”

In 2010, Kraft’s Brazilian operation introduced Delice, a mousse-filled chocolate. The new product helped boost Lacta’s sales 29 percent that year, according to Khosla.

In the past, Kraft had been “risk averse” with new products, Alexia Howard, a Sanford C. Bernstein & Co. analyst, said during an in investor conference in mid-January.

“That has changed in the last couple of years,” said Howard, who is based in New York.

New Products

New products are important to Kraft’s emerging-market strategy and accounted for 8 percent of sales in 2009 and 9 percent of sales in 2010, she said. That should grow to 11 percent in 2013, according to Howard.

Kraft’s 2010 acquisition of Cadbury Plc is a big piece of the strategy. While some analysts questioned the price tag of about 13.6 billion pounds ($18.5 billion), Cadbury gives Kraft a distribution network in Asia and Latin America, Wrede said.

“What they really bought was a way to ship small-pack snacks in Brazil and India,” he said.

Before buying Cadbury, Lacta was featured mostly in large stores. The brand had little exposure in mom-and-pops, according to Abelenda. Cadbury sold brands like Halls lozenges and Trident gum in smaller stores. The deal instantly gave Lacta 100,000 new outlets in Brazil.

New Factory

The brand now owns 37 percent of the market and Kraft wants more. Last year, the food maker poured $200 million into Brazil, including $80 million for a new chocolate factory. It also increased Lacta’s marketing budget by 22 percent to support a new ad campaign, whose slogan is “Entregue-se,” or “Surrender Yourself.” In one racy ad, Pegasus swoops in and carries away a woman after biting into a Lacta chocolate bar.

Kraft is making a similar push in China. Oreo Cookies hired basketball star Yao Ming as spokesman and the company has made a major marketing push. In the past two years, it has become the top-selling cookie in the market and its sales outside the U.S. have grown 30 percent a year for five years.

To contact the reporter on this story: David Welch in Detroit at dwelch12@bloomberg.net

To contact the editor responsible for this story: Robin Ajello at rajello@bloomberg.net

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