By Saabira Chaudhuri and Annie Gasparro
Deal talks between Kraft Heinz Co. and Unilever PLC are dead,
but both consumer-goods giants now find themselves under heightened
pressure to make bold moves to accelerate growth.
Unilever shares fell 6.6% in London Monday after Kraft Heinz
dropped its $143 billion bid for its rival -- partly reversing a
13% jump on Friday, when the offer became public.
Unilever made clear it didn't want to pursue a tie-up, but
investors in recent years have encouraged the Anglo-Dutch maker of
Ben & Jerry's ice cream, Dove soap and Axe deodorant to sell
underperforming businesses or do a large acquisition to boost its
shareholder returns, which have lagged behind other European home
and personal-care companies. Chief Executive Paul Polman has so far
danced to his own tune.
"It's a wake-up call for Unilever and they need to respond,"
Société Générale analyst Warren Ackerman said of the short-lived
offer. Unilever declined to comment.
Kraft Heinz, meanwhile, has significantly improved its
profitability since the 2015 deal that created the company, driven
by the aggressive cost-cutting methods of Brazilian private-equity
firm 3G Capital, its biggest shareholder. But it is now running out
of costs to cut, leaving investors hungry for another deal.
Kraft Heinz shares soared by 11% on Friday, as shareholders
cheered the prospect of a new acquisition. U.S. markets were closed
on Monday in observance of Presidents Day. Barclays analyst Andrew
Lazar said the offer served "as a reminder of Kraft Heinz's
interest, capacity and commitment to pursuing large-scale M&A
in a potentially near-term time horizon."
3G, which has raised at least $10 billion in new funds, declined
to comment.
Analysts and investors expect Mondelez International Inc. to be
a likely takeover target for Kraft Heinz, because it was part of
Kraft before their 2012 breakup and has a strong presence in
emerging markets where Kraft Heinz wants to expand. A Mondelez
spokeswoman said "we don't comment on market rumors or
speculation."
Kraft Heinz said buying rivals isn't the only way for it to
produce strong returns. Chief Financial Officer Paulo Basilio, also
a partner at 3G, said Wednesday that the company has decided to
make additional investments in food-quality improvement and
developing new products to boost sales.
"We don't need another acquisition to drive value," Mr. Basilio
said.
Investors in companies led by 3G, including Anheuser-Busch InBev
NV and Burger King operator Restaurant Brands International Inc.,
have come to expect rapid returns. When savings max out a few years
after a merger, 3G has a habit of making another sizable deal,
beginning the process over again.
At Heinz, which it bought in 2013 along with Warren Buffett, 3G
managed to strip out $1 billion in annual costs before acquiring
Kraft two years later. Last year, Kraft Heinz's operating-profit
margin expanded 5 percentage points to 23% of sales.
The need for cost cuts is exacerbated by changing consumer
tastes away from packaged goods and toward healthier offerings.
Kraft Heinz, which logged $26.5 billion in sales last year, in 2015
said the deal would allow the combined conglomerate to revive the
center aisles of supermarkets. But its comparable sales inched up
0.3% last year after falling 1.6% in 2015.
Unilever's food business has fared better than most of its
rivals in recent years, thanks in part to the company's large
footprint in emerging markets, where consumer preference for
packaged goods remains strong. Unlike Kraft, the company's biggest
revenue sources come from its higher-margin personal- and home-care
businesses, which sell things like soaps and detergents.
But since Mr. Polman became CEO in January 2009, Unilever has
posted a total shareholder return of 193%, according to Exane BNP
Paribas data. The results underperform most of Unilever's European
peers: 464% at Henkel AG, 290% at Reckitt Benckiser Group PLC and
215% at L'Oréal SA.
Unilever's profit margins also have lagged behind those of some
of its U.S. and European rivals, and the company rarely buys back
shares, a strategy analysts say Mr. Polman views as financial
engineering. Unilever last repurchased its shares in 2007 and last
paid a special dividend in 1999.
"Investors have been very patient yet have been given relatively
mediocre financial reward," said Exane analyst Jeff Stent. "This
should not be back to business as usual at Unilever."
Following Kraft Heinz's approach, Unilever could come under
increased pressure to sell, spin off or strike a joint venture for
its declining spreads business, which includes margarine brands
such as Flora and Blue Band. "Just because it's declining doesn't
mean you just sell it; you only sell it if the price you can get
for it is better than if you keep it," Mr. Polman told reporters
last year.
Analysts have also suggested Unilever could choose to divest
certain local tea brands -- such as PG Tips in the U.K. -- and
instead focus on launching premium tea brands more widely. Despite
being the world's largest tea company, Unilever has turned in
lackluster sales growth for years as consumers move away from
mainstream black tea into areas such as green and herbal teas, to
which it has less exposure.
Mr. Polman has stayed away from large acquisitions in recent
years, instead opting for a series of deals up to $1 billion,
including last year's purchase of Dollar Shave Club Inc. But
Kraft's approach underscores Unilever's vulnerability as the pound
has weakened sharply against the dollar while Unilever investors
hoping for a big payout have been left disappointed. All this could
propel Mr. Polman to look at bigger acquisitions as a pathway to
growth.
The company has long been rumored to be interested in buying
Colgate-Palmolive Co., which would significantly boost its exposure
to high-growth personal-care products and deliver major cost
savings. Analysts say now would be a good time for such a move
given that a January profit warning has pressured the toothpaste
maker's shares, borrowing costs are low and Unilever's balance
sheet is in good health.
Exane BNP Paribas on Monday raised its target price on Colgate
to $90 from $68 and upgraded its rating, saying "the likelihood of
Unilever seeking to acquire Colgate has now increased materially."
Colgate closed Friday at $71.98, giving it a market value of nearly
$64 billion.
Unilever has also long been floated as a natural buyer for
Edgewell Personal Care Co., which owns shaving brands such as
Schick, Edge and Skintimate along with sun-care brands such as
Banana Boat and Hawaiian Tropic. Edgewell has a market
capitalization of $4.6 billion.
Edgewell and Colgate didn't respond to requests for comment.
Write to Saabira Chaudhuri at saabira.chaudhuri@wsj.com and
Annie Gasparro at annie.gasparro@wsj.com
(END) Dow Jones Newswires
February 20, 2017 19:31 ET (00:31 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.
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