Summary of KELLOGG CO - Yahoo! Finance

Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Results of operations
Overview
Kellogg Company is the world's leading producer of cereal and a leading producer of convenience foods, including cookies, crackers, toaster pastries, cereal bars, fruit snacks, frozen waffles and veggie foods. Kellogg products are manufactured and marketed globally. We currently manage our operations in four geographic operating segments, comprised of North America and the three International operating segments of Europe, Latin America and Asia Pacific. We manage our Company for sustainable performance defined by our long-term annual growth targets. These targets are low single-digit (1 to 3%) for internal net sales, mid single-digit (4 to 6%) for internal operating profit, and high single-digit (7 to 9%) for net earnings per share on a currency neutral basis. See the "Foreign currency translation" section for an explanation of management's definition of currency neutral.
For the quarter ended April 4, 2009, we reported a 3% decline in net sales, with internal net sales increasing by 4%. Consolidated operating profit declined 3%, with internal operating profit increasing by almost 7%. Diluted earnings per share ("EPS") grew 4% to $.84, compared to $.81 in the comparable prior period. EPS on a currency neutral basis grew 14%.
For 2009, despite a tough economic outlook, we expect our business model and strategy will deliver internal net sales growth of 3 to 4% and internal operating profit growth of mid single-digits (4 to 6%) which are in line with our long-term annual growth targets. We expect our earnings per share to grow at high single-digits (7 to 9%) on a currency neutral basis. Net sales and operating profit
The following table provides an analysis of net sales and operating profit performance for the first quarter of 2009 versus 2008:

                               North                             Latin          Asia Pacific
(dollars in millions)         America          Europe           America              (a)             Corporate        Consolidated

2009 net sales               $ 2,211          $   557          $   230          $       171           $   -           $     3,169

2008 net sales               $ 2,148          $   677          $   253          $       180           $   -           $     3,258

% change - 2009 vs.
2008:
Volume (tonnage) (b)            -1.9 %           -3.8 %            -.2 %                9.2 %             -                  -1.6 %
Pricing/mix                      6.0 %            5.1 %            8.7 %                1.5 %             -                   5.8 %

Subtotal - internal
business                         4.1 %            1.3 %            8.5 %               10.7 %             -                   4.2 %
Acquisitions (c)                  .1 %            1.0 %              -                  7.1 %             -                    .8 %
Foreign currency
impact                          -1.3 %          -20.0 %          -17.7 %              -23.2 %             -                  -7.7 %

Total change                     2.9 %          -17.7 %           -9.2 %               -5.4 %             -                  -2.7 %




                                 North                             Latin          Asia Pacific
(dollars in millions)           America          Europe           America              (a)             Corporate         Consolidated

2009 operating profit           $  403          $    95          $    49          $        25          $    (43 )        $      529

2008 operating profit           $  403          $   112          $    45          $        31          $    (46 )        $      545

% change - 2009 vs. 2008:
Internal business                  1.6 %            8.8 %           28.0 %               16.4 %             4.2 %               6.6 %
Acquisitions (c)                    .1 %             .1 %              -                 -8.3 %               -                 -.4 %
Foreign currency impact           -1.7 %          -23.5 %          -18.4 %              -26.4 %               -                -9.1 %

Total change                       0.0 %          -14.6 %            9.6 %              -18.3 %             4.2 %              -2.9 %

(a) Includes Australia, Asia and South Africa.

(b) We measure the volume impact (tonnage) on revenues based on the stated weight of our product shipments.

(c) Impact of results for the quarterly period ended April 4, 2009 from the acquisitions of Navigable Foods, Specialty Cereal and certain assets and liabilities of IndyBake.

Table of Contents

Our consolidated net sales decreased by 3%, driven by a significant negative impact from foreign currency translation. Excluding this negative impact, internal net sales grew by 4%, driven by the continued momentum of our pricing and mix initiatives. Internal net sales grew despite the decrease in volume compared to the prior year. We experienced volume growth in global ready-to-eat cereal, which was more than offset by a volume decline in snacks due to the recall of certain peanut-related products and the re-sizing of certain snack boxes in North America, and the move from a volume to value model in Russia. Our North America operating segment had internal sales growth of 4%. The retail cereal product group grew by almost 6% as we experienced broad based growth in our core brands such as Mini-Wheats, as well as our innovations such as Special K Blueberry, Jumbo Rice Krispies and Frosted Mini-Wheats Little Bites. The retail snack product group (cookies, crackers, toaster pastries, cereal bars, and fruit snacks) grew by 2% with growth from our FiberPlus innovation, Rice Krispies Treat Squares and our Kashi TLC cereal bars. Our snacks growth was negatively impacted by the peanut-related recall. See the "Product recall" section for further information. The frozen and specialty channels (frozen foods, food service and vending) grew a strong 6% driven by solid growth in Eggo waffles and Eggo Bake Shop innovations.
Our International operating segments collectively achieved net sales growth of 4% on an internal basis. Europe's internal net sales grew by 1%. Net sales were negatively impacted by retailer disputes resolved during the quarter. Snacks products continued to perform well across the region, especially in the UK driven by Rice Krispies Squares. Latin America's internal net sales growth was 8% attributable to price increases initiated in 2008 and by cereal sales in Venezuela. Asia Pacific had a very strong quarter, building on last year's momentum with 11% internal net sales growth. Retail cereal grew exceptionally well in Australia, South Africa and India.
Consolidated operating profit decreased by 3% on an as reported basis and increased almost 7% on an internal basis, when excluding the impact of foreign currency translation and acquisitions. While we continue to experience significant commodity cost pressures, we have been able to more than offset those pressures by savings from our cost reduction initiatives and our pricing/mix. Costs incurred as a result of the peanut-related recall of Kellogg products adversely impacted North America's operating profit by $27 million or 7% of the quarter's operating profit. See the "Product recall" section for further information. North America also had higher up-front costs associated with cost reduction initiatives as discussed in the "Other cost reduction initiatives" section. Internal operating profit increased in Latin America due to strong top line growth and lower up-front costs. Europe's internal operating profit benefited from lower up-front costs, pricing/mix and savings from cost reduction initiatives. Strong top line growth in Asia Pacific resulted in strong internal operating profit growth. Reported operating profit growth was negatively impacted by foreign currency and the acquisition of Navigable Foods. For further information on our acquisitions, see pages 34 to 35 in our 2008 Annual Report on Form 10-K.
Margin performance
Margin performance for the first quarter of 2009 versus 2008 is presented in the following table:

                                                                Change
                                                              vs. prior
                 Quarter              2009        2008       year (pts.)

                 Gross margin (a)      41.1 %      41.9 %           -0.8
                 SGA% (b)             -24.4 %     -25.2 %            0.8

                 Operating margin      16.7 %      16.7 %            0.0

(a) Gross profit as a percentage of net sales. Gross profit is equal to net sales less cost of goods sold.

(b) Selling, general and administrative expense as a percentage of net sales.

We strive for gross profit dollar growth to reinvest in brand-building and innovation expenditures. We maximize our gross profit dollars by managing external cost pressures through product pricing and mix improvements, implementing productivity savings and technological initiatives as well as entering into commodity hedges and fixed price contracts to reduce the cost of product ingredients and packaging. For the quarter, our gross profit was down $62 million and was negatively impacted by foreign exchange and peanut-related recall costs. Our gross profit would have been higher by $108 million if we excluded the impact of foreign exchange. Operating margin remained unchanged from the prior year due to disciplined spending in promotions.
As illustrated in the preceding table, our consolidated gross margin declined 80 basis points in the quarter. Our recent acquisitions lowered gross margin by approximately 20 basis points for the quarter. We also continue to

Table of Contents

experience inflationary cost pressures for fuel, energy, commodities and employee benefits. During the quarter, higher costs, including recall related costs were offset by savings from cost reduction initiatives and price increases. We expect our full year margin to be flat compared to the prior year by continued price realization and cost savings which will offset cost pressures.
Foreign currency translation

The reporting currency for our financial statements is the U.S. dollar. Certain of our assets, liabilities, expenses and revenues are denominated in currencies other than the U.S. dollar, primarily in the euro, British pound, Mexican peso, Australian dollar and Canadian dollar. To prepare our consolidated financial statements, we must translate those assets, liabilities, expenses and revenues into U.S. dollars at the applicable exchange rates. As a result, increases and decreases in the value of the U.S. dollar against these other currencies will affect the amount of these items in our consolidated financial statements, even if their value has not changed in their original currency. This could have significant impact on our results if such increase or decrease in the value of the U.S. dollar is substantial.
The recent volatility in the foreign exchange markets has limited our ability to forecast future U.S. dollar reported earnings. As such, we are measuring diluted earnings per share growth and providing guidance on future earnings on a currency neutral basis, assuming earnings are translated at the prior year's exchange rates. This non-GAAP financial measure is being used to focus management and investors on local currency business results, thereby providing visibility to the underlying trends of the Company. Management believes that excluding the impact of foreign currency from EPS provides a better measurement of comparability given the volatility in foreign exchange markets. Below is a reconciliation of reported diluted EPS to currency neutral EPS for the quarter ended April 4, 2009: