Don't buy Kraft

Normally, me and mapreet both like spin offs. Spin offs are excellent because there is usually indiscrimnate selling in the companies involved where that is the time where one can get companies for bargain prices. However, kraft was not exactly an attractive one.

Firstly, let me give you the facts surrounding kraft. Kraft is actually owned by Altria, the company that produces marlboro cigarettes. 88.9% of kraft is owned by Altria and for every share of Altria, one is entitled to 0.692024 of Kraft. With regards to the ratio of distribution, there was not much incentive for indiscrimate selling. Take a scenario where for every share of altria that one owns, he gets only 0.1 share of kraft., In such an extreme situation where the spin off is only a small fraction the value of the mother share, one can expect tons of indisriminate selling of kraft from the institutions. But in this case, it was not so as the fraction was larger. Besides kraft was also a very well known brand. Just to break it down further, for every share of altria during the distributions an altria share was valued at market price of $62 while a share of kraft during distribution was $30 which means that every share of altria was entitlled to around $20. If you were an investor you would have probably kept the $20 given to you.

Management owns only a minute portion of the company in terms of restricted stock, options, grants etc and this does not help in aligning the interests of shareholders and management. Irene Rosenfeld earns approximately 9 million annually according to SEC filings and the options given to her to stimulate performance can only help her get 2.5 million richer if the stock price rises 25% from base price of $33.14 which is the excercise price of the options package. To me 2.5 million is not a tremendous stimulus to make her perform and i am sure Joel Greenblatt would agree with me on that.

Despite its industry foothold, its financials were not extremely attractive. Its current Pe was 21 as compared to the industry of 19.5 and its return on equity was poorer than that of the industry standing at 9.4% vs 23.5%.

Although it has embarked on a heavy resturturing program of 3 billion in 3 years and a 2 billion stock repurchase program sinve 2004, its has not significantly impacted the bottom line. It now has in place a new stock repurchase program of $5 billion till march 2009 but i really doubt their efforts will come to fruition as they only have 250 million in cash, not enough to buy back stock that is. Well, they could take on debt but i am skeptical that that might work as prices currently are not undervalued.

According to management discussion and analysis, it 2007 forecasted results is approximately $1.50 to $1.55 and with a PE of 21, it should be trading at $32.55 MAX at the end of fiscal year 2007.It is currently trading at 34.24

Undervalued???? Not a chance.

However, it seems to me and Manpreet that Altria might be the real steal here. Removing kraft from the financial statements would increase altria's earnings per share growth over the next few years. The only reason that is stopping us from investing in Altria is that firstly, it is a "sin" stock and that it has too many litigation woes that might cause uncertainty in its future.

However, there is one reknowed investor that seems to disagree with us and that person is Michael Price.