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November 4, 2011

In the spotlight: Walnuts crack Diamond

Some of Diamond Foods' lustre has been wiped away by an announcement that its much-lauded purchase of Pringles has been delayed over an investigation into crop payments.

Some of Diamond Foods’ lustre has been wiped away by an announcement that its much-lauded purchase of Pringles will be delayed over an investigation into crop payments.

In April, the US company announced the acquisition of Pringles from consumer goods giant Procter & Gamble (P&G) for US$2.35bn and expected the deal to be done and dusted by the end of this year.

However, this week that deadline was put back six months after Diamond announced the launch of a probe into “accounting for certain crop payments to walnut growers” after the chairman of the audit committee of Diamond’s board of directors received an “external communication” about the matter.

Shares in Diamond, which produces Kettle chips and Emerald snack nuts, sank 20% in afternoon trading Wednesday (2 November), following the announcement of the delay.

At the time of the sale, the company said the move would triple the size of its snacks business, double its snack sales in the US and the UK and mean that the company would make 49% of its revenues outside its domestic market.

The market welcomed the deal and Diamond’s share price shot up on the day. Other glowing projections surfaced – the combined business would enjoy annual sales of $2.4bn, EBITDA of up to $410m and – crucially for Diamond’s investors – be “immediately accretive” to earnings.

Diamond also raised its expected annual net sales to between $1.85bn and $1.95bn, after having previously forecast net sales of approximately $1.8bn for fiscal 2012.

In a conference call last month, Steve Neil, the chief financial and administrative officer, spoke glowingly about the opportunities and leverages an iconic brand like Pringles represents, such as its 90% distribution in the convenience store sector, cost efficiencies and experienced staff.

Diamond was not available for comment about the nature of the investigation or the effect the delay will have on the company.

However, Erica Chase at Barclays Capital said that while the delay is “clearly disappointing”, she is heartened by the fact that P&G put out a release stating the company “remains committed to the transaction”.

She added: “We interpret this to mean that P&G is comfortable with the audit committee’s investigation and, while it may take some time to play out, it should not inhibit the prospects of a deal between the two companies going forward.”

A spokesperson from P&G said that the conditions of the sale necessitates such a delay while the investigation is completed. Under the agreement P&G will set up a separate entity for the Pringles business which will be “distributed” to P&G investors taking part in the transaction and – at the same time – the business will merge with Diamond.

He said: “We want to ensure our shareholders have no questions whatsoever about this transaction.”

Analysts at BB&T Capital Markets Equity Research say the furore over crop payments to walnut growers is likely to be over “speculation” that Diamond paid its growers less than the average realised market price for the 2010 crop.

The company also lowered its EPS estimate for its full-year 2012 slightly to $3.14 from $3.15.

“Should the deal get pushed out further, there could be further downside risk to our estimates,” it added.

“Further, if the shares remain under pressure that could potentially result in greater-than-expected debt assumption with the Pringles deal and, thus, result in higher interest expense.”

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