Why the Easter Bunny will need more money next year

Happy Easter from all of us at the Fool!

We hope you are enjoying the break and that it was a meaningful time for those of you for whom the religious significance is paramount.

If you’re anything like our family, the Easter break is wall to wall chocolate. The bad news for me and my fellow chocaholics is that the habit is likely to get more expensive.

The world is consuming chocolate at an all-time high. The International Cocoa Organisation expects demand to outstrip supply by more than 70,000 tonnes this year alone. Cocoa prices are rising and are expected to continue increasing for at least another decade. While I can’t tell you to cut back on the chocolate bars, you can prepare your portfolio for the coming shortage.

Why no chocolate?

Cocoa production is a low-yield business. Bad weather and sociopolitical issues can crush cocoa harvests, as can happen with many commodities. But what separates cocoa from the others is its demand outweighs supply in the long run, not just the next few years. Analysts and experts agree that improving crop yields and creating new plants is absolutely necessary to meet the growing demand. Many private research organisations are working on this, but the finished products are a long way off.

Keep chocolate in your belly and out of your portfolio

The likes of Hershey (NYSE: HSY) and Nestle are bracing for what could be a 50% increase in cocoa prices over the next decade. In fact, some of the biggest bear arguments for Hershey come down to thinning gross margins — a sign of rising raw-material costs. The company has been able to boost revenue over a five-year period, but a look at the declining year-over-year cash flows show where the margins are hurting the chocolate giant.

These companies can hedge their bets by buying cocoa futures, but it’s not as easy for you. Long term success for these businesses will likely depend on how they handle the commodity issue.

How do I cash in on the chockies?

Snack companies with a more diversified portfolio, such as Kraft (NYSE: KFT) – which owns our favourite chocolate brand, Cadbury – would be a safer pick in the space. Kraft’s cocoa-intensive businesses, including both Cadbury and Toblerone, will no doubt feel the pain, but the 100-plus-strong brands under Kraft’s reign should more than compensate for lacklustre performance in any one segment. However, it is worthwhile to note that in the risk section of its latest 10-k, even Kraft mentions the cost of cocoa and its expected rise.

So should I just keep eating the eggs and not worry about it?

As an investment, chocolate companies might be tough. Maybe the best plan is to own the retailers who sell it for ‘big chocolate’, including Woolworths (ASX: WOW) and Coles, part of Wesfarmers (ASX: WES) – and to start on a personal stockpile. The trick with the latter might just be the self-discipline to not dip into it prematurely…

If you are looking for ASX investing ideas, look no further than “The Motley Fool’s Top Stock for 2012.” In this free report, Investment Analyst Dean Morel names his top pick for 2012…and beyond. Click here now to find out the name of this small but growing telecommunications company. But hurry – the report is free for only a limited period of time.

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Scott Phillips  is a Motley Fool investment analyst . Scott owns shares in Woolworths. You can follow him on Twitter @TMFGilla.  The Motley Fool’s purpose is to educate, amuse and enrich investors.  This article contains general investment advice only (under AFSL 400691).

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