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Kraft Foods Inc.

Posted On: 8/27/2003

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Kraft Foods Inc. reported that, while volume grew 1.7% during the second quarter of 2003, the increase fell short of its expectations. The company attributes the weaker than expected results to accelerating trade inventory reductions, as well as the adverse effects of global economic weakness and higher price gaps in some key categories and countries.

To improve volume and share trends, the company plans to increase marketing spending behind certain U.S. businesses in the balance of this year and through 2004. This investment, expected to exceed $200 million in the second half of 2003 alone, is expected to reduce full-year diluted earnings per share to $2.00 to $2.05, reflecting growth of 2% to 5% over 2002.

"In the second quarter, certain of our U.S. businesses - in particular cheese, coffee, cold cuts and biscuits , were unfavorably impacted by the combination of a soft economy and higher price gaps. After assessing consumer takeaway for the first six months of the year, we have determined that incremental marketing spending is required on these businesses to restore a more robust growth profile," said Betsy D. Holden, co-chief executive officer of Kraft Foods. "While this spending will negatively impact earnings results, we believe it is the right thing to do for the long term health of our brands."

Second quarter 2003 net revenues of $7.84 billion represented an increase of 4.4% over $7.51 billion during the same period last year. Earnings per share of 55¢ rose 5.8%from the 52¢ earned per share in 2002.

Volume grew 1.7% during the quarter, as the impact of divestitures partially offset growth from ongoing businesses of 2.5%. The growth was driven by new products, strong shipments in the Beverages, Desserts and Cereals segment and solid growth in developing markets.

Biscuits, Snacks and Confectionery volume decreased 6%, primarily because cookies shipments declined. Net revenues slipped by 1.9%, driven by lower contribution and significant returns on underperforming new products.

Biscuit volume declined due to weak consumption of cookies, reflecting both category declines and lower response from promotional programs, partly offset by solid results on the "Oreo Uh-Oh!" launch.

A price increase taken to cover higher wheat and cocoa costs has reduced merchandising effectiveness, impacting consumption, particularly in cookies. To improve overall biscuit consumption and share trends, Kraft will increase marketing spending, particularly behind core cookie and cracker brands and new product launches.

Confectionery volume was down slightly, but new revenues were up strongly on the success of new "Altoids Strips" and "Altoids Sours." In Snacks, shipments increased driven by strong marketing programs and the introduction of "Planters Nuts in Chocolate" earlier this year.

Beverages, Desserts and Cereals recorded strong volume growth of 8.6% during the second quarter, with a net revenue increase of 4.3%. Volume and share gains in ready-to-drink beverages were fueled by the continued momentum of "Capri Sun," aided by the successful launches of "Capri Sun Sport" and "Capri Sun Island Refreshers."

Coffee volume declined due primarily to consumption weakness, as higher prices resulted in category softness and share losses.

During the second quarter, Oscar Mayer and Pizza volume dipped 1.2%. In Oscar Mayer, a volume decline in cold cuts and hot dogs, due to increased price gaps versus regional price-oriented brands, was partly offset by solid results from the launch of "Lunchables Fun Fuel." In Pizza, "DiGiorno Deep Dish," which completed national rollout in the first quarter, performed well.

Net revenues for Kraft Foods North America increased 1.4% during the second quarter to $5.64 million, as higher volume and increased pricing were partially offset by adverse product mix and higher trade spending to manage price gaps.

In the second quarter, net revenues for Kraft Foods International grew 13% to $2.2 million, driven in part by pricing actions to offset higher commodity and devaluation-driven cost increases in Latin America, favorable currency of $129 million, higher volume and two acquisitions in Turkey and Egypt.

"Second quarter diluted EPS and operating companies income did not meet our internal expectations," said Roger K. Deromedi, co-chief executive officer of Kraft Foods. "While costs were generally in line with our forecasts, volume was below our projections due to soft consumption and accelerated trade inventory reductions.

Guidance for 2004 will be provided in January, but current indications suggest another difficult year. Challenges are likely to include continued worldwide economic weakness and trade inventory reductions. In addition, investments planned in the second half of 2003 to enhance brand equity and growth prospects will increase in 2004, reflecting a full year of spending.