Crunching the numbers – Pressure mounts on Premier
The slump in the share price of Premier Foods last week serves to underline the threat that unstable credit markets represent to major food companies, particularly those with high debts. Ben Cooper reports on Premier's plight and compares its situation with that of major food companies in the US.
The dramatic fall in the share price of Premier Foods last week serves as further evidence, as if any were necessary, of the twitchy business environment the credit crunch has brought about.
A direct analogy with the situation some banks found themselves in may be a tad simplistic but given the negative speculation about Premier and the impact on its share price, the Hovis to Branston Pickle food producer can certainly claim to know what it feels like to be in HBOS's shoes.
Shares in the UK's largest food manufacturer plummeted by as much as 53% last Friday as speculation mounted that the company had or would soon breach its banking covenants. After the company made a mollifying statement, stating that third-quarter sales were 9% up on last year and that it expected to meet its debt covenants at the end of the year, shares rallied, closing down 15% at 293/4p.
It may never be a good time to go to lenders to seek refinancing but now is definitely not a good moment, and the plunging share price underlines that the market concurs. However, the jittery atmosphere is undoubtedly making the situation far more difficult for companies finding themselves close to the mark on debt covenants.
As has been seen in the banking sector, negative rumours spread like wildfire in the current climate, something that events at Premier only too vividly show. It had been reported at the weekend that the company was in negotiation with private equity group CCMP Capital about a possible cash injection, though Premier had not commented on that story specifically, saying it was continuing to "examine ways of accelerating the reduction of group debt".
But there had been no actual change in the company's situation. As Investec analyst Martin Deboo pointed out: "There is no formal covenant test until December 31. They made their covenants at the end of the half-year and my view is that they will pass that December covenant test. There would have to be something very, very bad about either trading or working capital in October to believe they're anywhere close to consuming their facility."
That said, there is no smoke without fire. Premier Foods is clearly not in great shape. The company amassed significant debts through its acquisition of Campbell's UK and Irish operations in 2006 and RHM in 2007, and has subsequently been hit by rising commodity prices. The company's debts reached GBP1.8bn (US$3.1bn) in June.
Its situation is not entirely dissimilar to that which US poultry group Pilgrim's Pride finds itself in. Pilgrim's Pride also became heavily indebted following a major acquisition, that of rival Gold Kist in 2006. Its position is more parlous. Indeed, the company tripped a debt covenant last month. Its lenders waived that covenant until 28 October so the company's fate could be decided next week.
Speaking to just-food, Ann Gilpin, analyst at Morningstar, reiterated that she believes Pilgrim's Pride's chances of avoiding bankruptcy are no better than 50/50. If Pilgrim's Pride's lenders do pull the plug, Gilpin expects the company would file for Chapter 11 bankruptcy protection and continue trading. "The worst case scenario is that equity holders get wiped out, not that they cease to exist. I don't think that's an option," Gilpin says.
Gilpin describes the combination of rising commodity costs, notably the inflation in corn prices caused by the growth in bio-fuel, coupled with the credit market crisis, as the "perfect storm" for food companies.
In addition to Pilgrim's Pride, two other large US meat processors, Smithfield and Tyson, are also the subject of negative speculation, owing to the impact of commodity prices on their profitability and their high debt levels. Gilpin points out while massive companies, such as Pilgrim's Pride, would be likely to continue to trade under Chapter 11, smaller companies in the same position may have no choice other than liquidation.
However, while the credit crunch is clearly affecting companies' ability to refinance during difficult times, Gilpin does not see the position food companies find themselves in as directly comparable with under-pressure banks. "I would say the difference I would make between companies in the food sector and companies in the banking sector is that in the food sector you see it coming," Gilpin says.
"Pilgrim's Pride didn't suddenly overnight become insolvent or suddenly unprofitable. This had been going on for months and you can see it coming. Banking is different because their assets are entirely predicated on people's confidence. The collapse of a bank can happen very rapidly but the collapse of a food company you see coming for a long time."
By the same token, Gilpin believes the recovery of the big meat processors in the US is more tied to the recovery in commodity prices rather than the restabilisation of credit markets. "I would say it depends more on the commodity markets than the credit markets," she says. "The credit markets didn't get them in trouble at first. The commodity markets got them in trouble. The credit markets [crunch] only means that it's harder for them to raise capital or refinance. Even if they could do that they're still unprofitable. We've seen grain prices come down so there is hope, but we haven't seen any stable high meat prices so that's what needs to change."
The slump in the share price of Premier Foods last week serves to underline the threat that unstable credit markets represent to major food companies, particularly those with high debts. Ben Cooper re...
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