Lean Times For Food Stocks

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Worried about what the low-carb diet craze might do to your favorite food stock? Here's some food for thought for sanguine investors: The American Heart Assn. doesn't recommend such diets. Neither do most dietary experts. Moreover, most people can't abide the rigor and restrictions low-carb diets demand for any sustained period.
Of course, that doesn't mean people won't try -- at least for short stints -- some variation on the Atkins, Zone, or South Beach diets, especially with the summer beach season almost at hand. According to a February report from market researcher ACNielsen, more than 17% of those polled reported that someone in their household was on a low-carbohydrate diet. Perhaps more telling, however, 19% said a household member was once on such a diet but no longer is -- an indication that quitting is just as popular as starting one of these diets.
Such statistics may be cold comfort to a small but growing number of companies that have felt the weight of the low-carb fad so far this year. Privately owned New World Pasta cited low-carb diets as a primary reason for its bankruptcy filing this March. Weight Watchers International (WTW) said Atkins & Co. have hurt new enrollment in its more traditional dieting regimens. Even doughy snack maker and Wall Street darling Krispy Kreme (KKD) is getting hurt. It said on May 7 that earnings would fall short by around 10% for fiscal 2005, as more of its customers have jumped on the low-carb train (see BW Online, 5/18/04, "The Doughnut Turns at Krispy Kreme").
PEPSI, TOO. Smart investors will take all the hoopla with a grain of salt, however. Americans go on and off diets all the time -- and you can find plenty of smart ways to invest in food-related stocks without staying up at night and worrying about the carb counters. Indeed, many food conglomerates are incorporating dieting consciousness into their product offerings.
Take blue-chip Pepsico (PEP). The maker of Pepsi, Tropicana orange juice, and Frito-Lay snacks is readying a new menu of nuts and meat nibbles to cater to Atkins devotees. Also in the works is a line of Doritos, Cheetos, and Pepsi with significantly less carbs than regular offerings. Pepsico "has been navigating the low-carb situation very well through innovation," says Marc Davis, vice-president with Tradition Capital in Summit, N.J.
Another player making the best of the trend is Hain Celestial (HAIN), the maker of Celestial Seasonings herbal teas and Terra chips. Its CarbFit line, which includes low-carb soy nuts, cookies, and pastas, was launched in January. The debut didn't stop Hain Celestial from taking a hit in its first quarter because of the new line's launch costs, but while the stock is down 26% since January, closing at $17.28 on May 17, Davis thinks the strategy ultimately will pay off. (Davis owns Pepsico and Hain Celestial, and so does his firm.)
BALANCED DIETS. Menu diversification is critical within the restaurant segment. Across the board, companies are trying to cater to more health-conscious eaters. In addition to its standard burgers and racks of ribs, casual-dining chain Ruby Tuesday (RI) recently introduced a new menu that provides information to customers who are counting carbs, fat, and calories.
You might think Panera Bread (PNRA), by its very name, would be feeling the heat from Atkins, and its stock has indeed fallen about 22% since January, closing at $34.61 on May 17. But it hasn't been hit as hard as doughnut or pasta makers because Panera also offers less-carb-heavy items, says Lynn Laws, an analyst at Shaker Investments in Cleveland.
California Pizza Kitchen (CPK), she says, is similarly diversified. Pizza is the main draw, but the outfit rounds out its offerings with salads and other lower-carb items. (Laws says her firm doesn't now own any food-related stock.)
CONSTANT ADJUSTMENTS. Sometimes, being in business with the right partners can help. Take Flowers Foods (FLO). The bread and snack-cake chain's main customer is Wal-Mart (WMT), which recently expanded its relationship nationally. Flowers has also done well by creating flavors and packaging for the Hispanic community. The growth rate at Flowers is "so high that we're seeing some impact [from low-carb dieting], but not a whole lot," says Jason Schrotberger, analyst and portfolio manager at Turner Investment Partners in Berwyn, Pa. Its stock is trading at around $22, down only slightly from $24 in January. (Schrotberger doesn't personally own food stocks. His firm owns Ruby Tuesday and Pepsi.)
It's important to keep in mind that while investors are more cautious about pasta makers and bakeries, over the long-term, the low-carb phenomenon "won't destroy the food industry," says Sara Hunt, research analyst at Capital Management Associates in New York. All of the latest adjustments to product lines and strategies are nothing new to the business. From one trend to the next, these relatively staid companies have been forced to keep changing and finding new markets. As for the emphasis on low carbs, that, too, will hit "a point where it starts to relax," she says. (Hunt doesn't now own any food stocks personally and neither does her firm.)
Like all the attention on so-called transfats a few years ago and low-calorie diets before that, the rush to low-carb foods will likely go the way of the Scarsdale and grapefruit diets of years past. Of course, people learning what is and isn't healthy to eat will be a continuing process. Laws notes that other trends -- everything from organic food to quick meals -- will always compete for consumers' attention. "People still want convenience," she says, "not everyone will be on these diets."
If nothing else, the low-carb scare of 2004 should serve as a reminder to all investors that safe, long-term growth lies in a broad-based portfolio of well-diversified names -- including those in the food business.