Kraft Heinz’s takeover bid for Unilever came as something of a shock today – not least because of the seeming unlikely pairing of the 3G Capital-owned US group with the European food-to-personal care company. just-food asks whether the takeover offer should be taken at face value.
Kraft Heinz confirmed today (17 February) it has made an offer to combine with European CPG giant Unilever.
While the proposal has been rejected by Unilever, Kraft Heinz signalled this afternoon it will continue “working to reach agreement on the terms of a transaction”.
Kraft Heinz’s bid for Unilever values the Ben & Jerry’s-to-Knorr maker at GBP112bn (US$139bn), representing a multiple of 14.5 times 2016 EBITDA. Kraft Heinz is offering GBP40 – or US$50 – per Unilever share, of which $30.23 would be in cash, with the rest 0.222 new shares in the combined entity. Unilever shares were trading at GBP37.50 at time of press.
Neil Shah, director of research at Edison Investment Research, believes the bid has come at an opportunistic time, with Unilever’s shares under pressure from concerns over organic growth and the impact of Brexit. The UK’s looming exit from the EU has also driven down the sterling against the dollar, making a GBP purchase more attractive.
“An approach for Unilever is a sure sign of the surge in dollar buying power and the decline in sterling. Today’s 10% rise in Unilever’s share price means this is cash neutral for a US purchaser compared with if it had approached seven months ago. Unilever’s own share price is also down about 15% from its all-time highs since the UK referendum vote last summer, on concerns about its pace of global sales growth, so the timing of Kraft Heinz’s bid is opportune,” Shah suggests.
The US food group, formed by the merger of Kraft Foods Group and Heinz in 2015 and backed by Brazilian private-equity group 3G Capital, has been on the takeover rumour mill for some months. Speculation has largely centred on US food companies such as cereal giant Kellogg and snack maker Mondelez International as potential targets.
The move for Unilever has taken many by surprise and the companies do not necessarily seem a natural fit. Indeed, while a spokesperson for Kraft Heinz told just-food the company wants to create a “leading consumer goods company with a mission of long-term growth and sustainable living”, this sounds more like Unilever’s mission statement and jars somewhat with Kraft Heinz’s strategic playbook.
3G Capital – and by extension Kraft Heinz – typically targets companies where it believes it can deliver margin improvements by bringing in its own management team and driving cuts. This focus on margin enabled Kraft Heinz to report industry-leading operating profit margins of 23.2% for 2016. While this might come at the expense of organic growth, which stood at just 0.3% in the year, today’s bid demonstrates Kraft Heinz’s strategy to increase profitability levels and then buy your way to growth.
However, the overlap between Kraft Heinz and Unilever is limited. Unilever generates around 60% of its sales in the home and personal care categories, a space that Kraft Heinz has no footprint in, and the company delivers around 70% of its revenue from Europe and Asia, while around 70% of Kraft Heinz’s sales are generated in the US. Unilever’s group operating margin stood at 15.3% in 2016 and – while there is some fat that can be trimmed there – it is nevertheless difficult to see how Kraft Heinz would be able to significantly improve the profitability of a combined company without cutting to the bone.
While there are opportunities to grow sales by leveraging the distribution network of the larger group, such efforts require investment and take time to deliver. Not Kraft Heinz / 3G’s typical modus operandi. However, the company has previously stated its intention to broaden its portfolio in order to become more of a global packaged foods giant.
Another factor that stands in the way of Kraft Heinz swallowing Unilever whole is the sheer scale of the deal. As Jefferies analyst Martin Deboo notes this is a “big financial stretch” for Kraft Heinz. The offer of $50 per share would leave Kraft Heinz with 5.2x net debt:EBITDA post-deal, Deboo suggests, and even then he stresses the offer metrics – 14.5 times EBITDA and a 20% premium on the share price prior to the announcement – “feel inadequate to us”.
This raises the question of whether Kraft Heinz is really targeting Unilever as a whole or whether the company just wants to take control of the Flora maker food’s businesses. Here, Deboo says competition concerns are “relatively manageable” – with the possible exception of the overlap between the Heinz and Hellmann’s brands.
Euromonitor International food analyst Raphael Moreau believes the approach and ongoing negotiations could see Unilever offload some of its food brands. “Kraft Heinz and 3G Capital’s willingness to pursue a deal could ultimately encourage Unilever to seek a deal to offload some of its food brands, to which Kraft Heinz would seek to apply aggressive cost reductions,” Moreau suggests. “Its search for a mega-merger could see 3G Capital settle for a smaller deal under which group synergies would be more achievable.”
Meanwhile, Pablo Zuanic, an analyst at US investment and trading firm Susquehanna International Group covering Kraft Heinz, suggests the US group could look to offload home and personal care once the deal is done. “We expect Kraft Heinz to float, divest, or sell the HPC piece, which at 14x EBITDA would be worth $78bn,” he wrote in a note to investors.
And, while increasing its offer would put pressure on Kraft Heinz’s leverage levels, Zuanic believes the company will not abandon its pursuit easily, given 3G Capital’s track-record in consolidating the beer industry through its interest in Anheuser-Busch InBev, the world’s largest beer maker. “For now Unilever has publicly rejected the bid, but if we go by Anheuser-Busch InBev, we would expect Kraft Heinz to persist, and a deal to eventually happen.”
If this deal did go ahead, merging Unilever’s food businesses with Kraft Heinz, it would create a packaged foods giant with largely unparalleled scale and reach in the consumer space.