By Lyle Niedens

BridgeNews

KANSAS CITY (B)--Second-quarter results Aug. 10 for Keebler Foods Co., the second-biggest U.S. cookie and cracker manufacturer, and its parent, Flowers Industries Inc., starkly reiterated why the latter likely will sell its 55% stake in Keebler by the end of the year.

Keebler's profits, which kept Flowers from reporting a loss for the quarter, totaled $32.8 million, or 37 cents a share. That is 2 cents per share higher than the consensus projection of Wall Street analysts surveyed by First Call/Thomson Financial and 38% higher than last year's $23.7 million, or 27 cents per share.

Those results excluded a one-time credit of $1 million in this year's quarter and a restructuring write-off of $69.2 million last year. They include a 1-cent-per share gain on the sale of a non-operating bakery.

Flowers, on the other hand, continued struggling with production difficulties at its Mrs. Smith's unit. The frozen baked goods division lost $13.8 million on an operating basis in the period ended July 15.

As a result, Thomasville, GA-based Flowers said its quarterly income rose to just $5.5 million, or 6 cents a share. That beat last year's $27.7 million loss in the quarter, or 28 cents a share. But it failed to meet the consensus First Call/Thomson Financial estimate of 7 cents per share.

David Goldman, an industry analyst with SunTrust Equitable Securities, said the results reinforce the reason Flowers' and Keebler's boards announced last month that they have initiated a strategic review. That review likely will lead to Keebler's sale, after which Flowers would spin off its remaining businesses to shareholders.

"It is more of the same," said Goldman. "Flowers disappointed (Wall Street) and Keebler knocked the cover off the ball. There just doesn't seem to be any end to the upside the company is capable of delivering."

Keebler's sales rose 4% to $614 million during the quarter. Company officials said sales of its core Townhouse, Club and Grahams cracker lines increased solidly, and Cheez-Its' revenues grew 3%.

But the company's cookie line experienced some difficulty in the face of deep price discounting by industry leader Nabisco Holdings. During the four-week period ended July 16, Nabisco's cookie sales volume rose 10% while Keebler's declined 2%, according to data compiled by Information Resources Inc.

Nabisco, though, recently announced a price increase on many of its products that currently is flowing through the grocery supply chain. Keebler also plans to raise prices 1 to 1.5% on an annualized basis across its product portfolio.

"This is an industry that has proven deep discounting doesn't drive market growth," said Dave Vermylen, president of Keebler brands, during a conference call with analysts and investors Aug. 10. " The key to growing the business is innovation, performance and execution, not pricing."

In that vein, Keebler continues integrating its recently purchased Austin Foods snack unit into its distribution chain in the Southeast.

Sam Reed, Keebler's chief executive, said buying the unit already has saved the company $10.4 million on an annualized basis, surpassing the company's hopes of $10 million in cost savings by the second year of the acquisition.

Keebler also has added branded ice cream cones to its foodservice division. But by far its biggest growth initiative will hit retail stores in the second half of the year.

That is when Keebler will introduce its new Sesame Street line, consisting of 12 cookie items and four cracker products. Reed said the line should boost direct-store delivery sales growth from 2.6% in the second quarter to 4 to 6% by the end of the year. Long term, he foresees it growing into Keebler's sixth $100 million brand.

"I am really pleased with the state of our business," Reed said. "We have set the stage for what promises to be an exhilarating second half."

Nonetheless, company officials said they remain comfortable with First Call's current consensus projections for the third and fourth quarters, though they now see profits for the entire fiscal year rising to $1.85 per share, up 2 cents per share from First Call's current projection.

Prospects remain darker at Flowers, which simply has not overcome continued production problems at its Mrs. Smith's facilities.

The unit's woes actually overshadowed a decent performance by Flowers' fresh baking unit, which earned $20.4 million in operating income during the quarter, a 9% increase from last year.

Amos McMullian, Flowers' chief executive, said in a news release that the company "is making progress" with the turnaround at Mrs. Smith's. But most analysts and investors have given up hope in that regard.

With Keebler's shares trading in the range of $44t o 45 per share, where they soared after July's announcement, Goldman said Flowers' stock should be trading at $25 to 29 per share. Instead, a 1.19% boost Aug. 10 pushed the stock up only 25 cents to finish at $21.25 on the New York Stock Exchange.

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