Big U.S. food companies eager to expand sales and offset slower growth at home are stretching their reach outside North America's borders: They're scrambling to best their rivals through global partnerships, acquisitions and even divestitures.
These strategies reflect the widespread assumption that the economic outlooks for the United States and Europe will be soft in 2012, while emerging markets will remain stable. Given that scenario, companies are picking their markets carefully.
The Kraft break-up
In August, Kraft Foods announced it was splitting itself into two independent companies–a global snack company with estimated revenue of $32 billion, and a North American grocery business with estimated revenue of about $16 billion.
Kraft chief executive officer Irene Rosenfeld told equities analysts in September that taking the Northfield, Ill.-based company's performance to the next level required "a bold new approach" and a strong focus on the "unique drivers" of the two new companies.
Taking Kraft's performance to the next level required "a bold new approach."
The split was met with mixed reviews, and Standard & Poor's Ratings Services affirmed Kraft's corporate credit rating of BBB.
"We believe the remaining business will have a strong business risk profile, albeit somewhat weaker than the consolidated Kraft's current business risk profile because of the more narrow business focus, reduced scale, and lower margins," Standard & Poor's Valuation and Risk Strategies research group wrote in an August report.
Kraft's decision to split into two separate entities is a shift away from its previous perspective, which was that "scale is what is necessary and the big [is] a positive," says Erin Lash, a senior stock analyst at Morningstar who follows the company. Kraft expects to derive 42 percent of its global snack sales from developing markets, 36 percent from Western Europe and 22 percent from North America.
Rosenfeld also led Kraft's hostile takeover of British confectioner Cadbury in 2010 in a deal worth approximately $19 billion. That was less than two years before the company announced its plan to split. With the company's slower-growth North American business holding back its stock, Rosenfeld saw an opportunity to extract value from the global snack business by spinning it off, analysts say.
In the Sara Lee and Fortune Brands company splits, "there was a strategic rationale for the deals."
In the third quarter, ended Sept. 30, Kraft's net revenues from European operations rose 16 percent from the year-ago period to $3.10 billion, while its revenues from developing markets climbed 20 percent to $3.99 billion. That compares with $6.13 billion in revenues from North American operations, up 4 percent from a year ago. The company's operating income in the quarter was flat in Europe but climbed 57 percent in developing markets and 3 percent in North America.
Standard & Poor's said it expects Kraft to reduce its leverage post spin-off. Debt climbed after the company made several acquisitions, including Cadbury, and bought back shares. The Cadbury acquisition extended Kraft's international presence, making Kraft the leading player in the global confectionery industry, according to Lash.
In an interview, Lash says, "We think the company's motivation [to split] was that its snack business was underappreciated" when combined with the more mature North American grocery brands. "And it wanted to unlock higher multiples for the segment," she adds.
Kraft's global snack business could fetch a multiple of 13 times EBITDA, compared with a multiple of eight times EBITDA for the North American grocery business, according to Morningstar. Kraft's international brands include Cadbury, Jacobs, LU Milka, Nabisco, Oreo, Tang and Trident. Meanwhile, brands in Kraft's North American grocery business are familiar staples in most kitchens: Kraft, Maxwell House, Oscar Mayer and Philadelphia cream cheese. Eleven of its brands each generate revenue of more than $1 billion.
Kraft's split is similar to one by Downers Grove, Ill.-based Sara Lee, which announced in January 2011 that it would divide itself into two publicly traded companies, one organized around its international coffee and tea business, and the other focused on its North American retail meats and frozen desserts business.
Sara Lee's North American retail sales declined 2 percent to $684 million in the first quarter of fiscal 2012, ended Oct. 1, from the year-ago period, while its adjusted net sales for its international coffee and tea business rose 14 percent to $906 million, the company reported. Adjusted operating income from the international business rose 20 percent in the quarter, and fell 9 percent for the domestic retail business.
Fortune Brands also segregated its spirits business from its home and security segment, forming two distinctly different companies. But in the cases of Sara Lee and Fortune Brands, Lash says, "There was a strategic rationale for the deals." Their segments could be acquisition targets, which is not the case for Kraft Foods, where the sheer size of the company's segments would make acquisition plays highly unlikely, Lash says.
Mergers & partnerships
However, acquisitions and partnerships do remain a favored expansion strategy among many packaged food companies.
Smithfield, Va.-based Smithfield Foods, a $12 billion food company and the world's largest processor and producer of pork, has forged partnerships with a number of international companies, including Spain's Campofrio Food Group, Europe's largest packaged meats company. Smithfield, which is best known domestically for its Farmland, Eckrich, Armour, and John Morrell brands, holds a 37 percent stake in Campofrio, but abandoned a takeover bid for the company in June as the European economy slumped amid the sovereign debt crisis.
Smithfield has been a player in the Asian markets for 20 years but has increased its expansion efforts recently, with an eye toward China's newly emerging consumers.
"China's economy is growing so fast that they have a fundamental shortage of supply."
"China's economy is growing so fast that they have a fundamental shortage of supply, and pork tends to be affordable relative to other protein sources," says Joe Luter IV, a Smithfield vice president with sales and marketing responsibilities for both international and domestic markets.
Luter notes that the company's ability in the past 12 months to ship fresh and frozen pork to Korea, China and Hong Kong has advanced its market reach into new segments of the Asian markets. Smithfield also ships fresh pork to Japan, he adds, noting that Asian demand for value-added meat products, such as marinated pork and packaged meats, is limited compared with fresh pork.
In reporting record earnings in September for the first quarter of its fiscal 2012, Smithfield president and CEO C. Larry Pope cites strong exports as a driver of fresh pork margins. "Robust" global demand for pork fueled double-digit increases in export volume and dollars, as well as market share gains, he says.
Smithfield's export volume increased by 13 percent in the first quarter of the company's fiscal 2012 vs. the year-ago period. Exports to China and Hong Kong jumped by 26 percent during the period, as did those for Japan, which represented another 26 percent of Smithfield's exports.
The company does not subscribe to a one-size-fits-all strategy for international expansion, Luter says. Smithfield aims to build a sustainable business in a country through relationships with retailers, customers and sales partners, as well as through direct contact, he says.
Longer-term, Luter says he sees bigger opportunities in Asia than in the more mature Western Europe market. Luter cites China as Smithfield's greatest target for expansion in Asia, followed by Korea, and then Vietnam "down the road" as demand for high-quality pork increases. "It's a challenge getting into China," Luter acknowledges, citing concerns about possible tariff and government policy changes.
Richard Lynch, a professor and author of the book "Strategic Management," shares Luter's assessment. In a posting on his website, "Global Strategy," he writes, "Some adaptation is needed for any company expanding globally, to conform with national laws or to adapt to local tastes."
Nonetheless, companies are pushing ahead. "Modern retailers are growing very aggressively in China," Luter says. What's important is that suppliers provide "a high-quality product that's traceable."