The spotlight will turn on Danone‘s strategy to grow its sales and profits tomorrow (25 July) when the group reports its second-quarter results. With what looks set to be a disappointing first-half in store, questions could well be asked about whether Danone is on the path to sustainable long-term growth, Katy Askew suggests.
Danone has struggled with issues ranging from a major downturn in dairy in western Europe to last year’s recall of infant formula in China linked to Fonterra’s WCP false alarm. As a result, the group booked a lacklustre first quarter, when like-for-like sales edged up 2.2%.
According to Bernsten analysts, more of the same is expected in the second quarter, with sales anticipated to rise a sluggish 2.6%.
“Given the weak sales and significant A&P spend to improve sales in early life nutrition in Asia, and weak sales and high milk inflation in fresh dairy, we expect strong margin declines in H1 (-200bps) which should contribute, along with negative foreign exchange, to exceptionally weak EPS growth of -23%,” Bernstein predicted.
Given this ongoing operational weakness, the market will be looking closely for some signs of how Danone plans to revive its fortunes in the longer term.
Perhaps some indication came earlier this month, when the group revealed it has taken a stake in Kenyan dairy group Brookside.
“By uniting Danone’s international expertise in fresh dairy products with Brookside’s regional expertise and robust supply chain, the partnership will enable Brookside’s growth acceleration by expanding its product portfolio and strengthening its geographical presence in key markets in the east African region, including Uganda and Tanzania,” Danone said.
Danone has been building its presence in the African dairy sector with a view to the long term development potential it affords. Last October, it teamed up with The Abraaj Group, a private-equity firm focusing on emerging markets, to buy Fan Milk International, a dairy group operating in Africa.
Danone already has a strong developing market presence and the group now seems bent on growing its geographical footprint and expanding in newly-emergent frontier markets where demand for dairy is still very much in its infancy.
But planting flags in new territories be enough to secure Danone’s prospects? Expansion in developing markets is, after all, a costly and complex affair.
A fragmented retail sector, poor infrastructure, problematic supply lines and the lack of a cold chain all hinder development of the dairy sector in these areas. Organic expansion is challenging and the valuations of local firms are rising as multinational investors vie for takeover targets.
With margins already under pressure and Danone’s established businesses demanding high levels of marketing and innovation spend to prevent sales spiralling downwards, will increasing investment in the slow-burn opportunity of emerging markets appease Danone’s shareholders, who are typically more interested in short-term value creation? Given time, possibly. But it certainly isn’t a quick fix.
Possibly, Danone could be looking at more radical measures. According to a report in the Wall Street Journal, Danone has kicked off a strategic review to assess what can be done to ensure long-term growth.
A person familiar with the situation told the publication: “There is a deep reflection about what Danone needs to do to make sure the group is still growing 50 years from now… I would be surprised if the group kept the status quo.”
According to the source, Danone is looking at all theoretical options including bigger deals or tie-ups. The aim is purportedly to concoct a new strategic plan by 2015. Watch this space.