How Kellogg's cereal spinoff heightens the competition with General Mills

For years, General Mills has been king of U.S. cereal, with Kellogg Co. chasing close behind.

But the rivals face a new season in their decades-long battle as Kellogg prepares to spin off its North American cereal business into a new standalone company.

The move is similar to the creation of Lakeville-based Post Consumer Brands in 2015, and executives at Kellogg and Post say having a company solely dedicated to cereal gives them the advantage.

"You can't overstate the importance of focus and prioritization. And that North American cereal business is going to be what they live for," Kellogg chief executive Steve Cahillane said at an investor conference earlier this month.

So can General Mills, with a much more diverse portfolio of products, maintain its No. 1 position in cereal when the competition heats up?

"The biggest challenge for us is staying focused on what we do well," General Mills CEO Jeff Harmening said at the same investor conference. "There's a case to be made we can get distracted, but I assure you we will not."

The gulf widens

Five years ago, General Mills and Kellogg co-led the category with equal market share.

It was an era of cost-cutting measures and consolidation in the packaged food industry. Every major food company was slashing costs to avoid a takeover. But the philosophy went too far: Without innovation and marketing efforts, the brands were killing themselves.

General Mills wised up sooner than some others by reinvesting in its top cereal brands. The company also listened to consumers. Rather than trying to put a healthy spin on all its sugary cereals, it embraced those brands for what they are.

Gradually, General Mills grew its market share of U.S. cereal while Kellogg's declined.

General Mills has widened its lead ever since. The Cheerios and Cinnamon Toast Crunch maker boasts a 34% share of the U.S. cereal market and had $3.1 billion in cereal sales over the past 12 months, according to IRI, a Chicago-based market research firm.

Michigan-based Kellogg, anchored by Frosted Flakes, Froot Loops and Frosted Mini-Wheats, collected 25% of all dollars spent on cereal in the same time frame, with $2.3 billion in sales.

However, some of Kellogg's recent share decline is attributable to a major fire at a plant in 2021 and a nearly three-month strike at all four of its cereal plants last fall. Its unit sales fell more than 14% over the previous year, IRI data shows.

As Kellogg continues to rebuild its inventory — and with the cereal spinoff still a year away — General Mills has a chance to shore up its lead.

"At least in the near term, there's an opportunity for General Mills," said Edward Jones analyst Brittany Quatrochi. "There's likely to be some distraction on Kellogg's part."

Cahillane said Kellogg hasn't given enough support to its North American cereal business, which accounted for about 20% of the company's total revenue in 2021.

"You've heard me say, 'We don't have to win in North American cereal for our algorithm to work. We just have to be stable,'" he said. "Think about how that's perceived by the people who work in North America cereal. They're like, 'Great, I don't have to grow. I'm not that important.'"

That attitude will change with a cereal-focused company.

"They are going to wake up each and every day with one thing on their mind," Cahillane said. "How do I win in this category?"

But if the executives in Golden Valley are sweating, they aren't showing it.

"It's certainly not arrogance but confidence that we are doing the fundamental things right in order to succeed," Harmening said. "We've gained market share five years in a row."

General Mills' leaders dismiss the notion their success is due to a competitor's recent stumbles.

"We believe in our cereal business," Harmening said in an interview last week. "We've got the best brands in the category. We have a deep knowledge in cereal and we care about the business quite a bit."

Stronger segment

The overall cereal business struggled for several years until COVID-19 jumpstarted sales for comfort and convenience foods, including cereal.

While the major boost from pandemic-era stockpiling has faded and price increases have slowed the number of boxes sold, Quatrochi said the business remains on much better footing now.

"The pandemic reintroduced people to cereal, many of whom are still working [and eating] more at home," she said.

Barclays analyst Andrew Lazar wrote earlier this month the category "is quite healthy at the moment, likely in part as cereal provides an affordable meal during challenging times."

Cereal has not been immune to inflation — the average cost per unit has risen 10.7% in the past year, according to IRI — but it remains a consumer staple.

"A bowl of cereal with a glass of milk is $1, and that's really helping the category," Cahillane said.

Kellogg has tapped its chief legal officer, 22-year company veteran Gary Pilnick, to lead the North American cereal business, and has announced several other high-level hires.

Yet there are many unknowns as to how the new company will perform.

Lazar questioned whether the new company can achieve "sustainably stable sales ... as the business was consistently losing share prior to the pandemic."

"We continue to believe investors remain skeptical around the value creation proposition," he added.

Morningstar analyst Erin Lash echoed that sentiment in August, but said with better brand spending, "we think its [Kellogg] products will uphold strong positions in their respective categories over the long term."

Kellogg is also separating its plant-based business, led by Morningstar Farms. The remaining company will focus on its global snacking portfolio, which includes Pop-Tarts, Pringles, Cheez-Its and international cereal.

The rationale is that the three businesses will perform better on their own than they would have under one umbrella.

Lazar said Kellogg also seemed "increasingly frustrated with being viewed first as a cereal company, despite cereal representing a smaller and smaller percentage of the company over the years."

General Mills appears unlikely to follow Kellogg in separating its cereal business after watching its domestic cereal sales rise 9.4% over the past year.

Harmening said that while that rate of growth may cool off over the next year, "We're playing the long game."

"No matter what our competition does, we're going to keep building our brands, caring for and believing in them," he said. "In the long run, that is what led us to be successful."