After a challenging 12 to 18 months, Premier Foods plc’s management would have been heartened to have seen the UK food group’s shares jump after the publication of its 2010 results.

Premier’s stock rose by over 16% yesterday (15 February) after the UK’s largest food maker said its trading profit rose in 2010, although annual sales fell and a goodwill impairment charge at its Brookes Avana division led to a pre-tax loss of GBP98m (US$157.2m).

The company, which makes brands from Bisto gravy to Sharwoods ethnic cuisine, has faced criticism from parts of the City over its balance sheet, including its hefty debt pile, which, on 26 June, stood at GBP1.37bn.

Premier has since sold off operations – including its meat-free business – to pay down that debt and, announcing the company’s 2010 results, CEO Robert Schofield said the business had “progressively implemented” its financial strategy. That included closing out Premier’s interest-rate swap exposure, closing the company’s final salary pension scheme and increasing its cash flow. “2010,” Schofield said, “has been an important year in the history of Premier Foods.”

In the City, there were sounds of approval. Investec analyst Martin Deboo said the results suggested Premier had “turned a corner” and argued that “with a material beat and a sweeter balance sheet, today should be a welcome day in the sun for Premier Foods”.

However, for all the praise, there still remain tests ahead for Premier, some common to the rest of the sector but others specific to the business.

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By GlobalData

Like much of its peers, Premier is facing rising commodity costs. Yesterday, pointing to more expensive wheat, oils, cocoa and cartons, Schofield said Premier had seen input costs rising by 5-6% in its categories.

Nevertheless, Schofield, like many of his counterparts at other food manufacturers, insisted that the company had raised prices to cover those costs and could manage the pressure on its raw-material bill. However, the trajectory of commodity costs remains a great unknown and, with consumer confidence fragile, there is uncertainty about how successful the likes of Premier will be in raising prices again.

Premier’s promotional strategy is also in question. Schofield said Premier had promoted in line with its market in 2010, although he conceded that, in the third and fourth quarters of the year, the company used more promotions than the rest of the market. Notably, in the final three months of the year, Premier promoted “probably a little bit more than we should have done”, Schofield said.

Against a backdrop of intense promotion activity across the sector, Premier’s grocery brands – that is, brands excluding Hovis bread – saw its sales volume rise by 3.1% in 2010 against a market up 0.9%. However, Premier saw the value of those sales fall by 0.3% last year, compared to a market that declined 0.2%. Schofield said the problem lay in Premier’s “core” brands – products like Bisto gravy and Branston pickle. In volume terms, sales of those products fell 2%; in value terms, sales were down 2.5%.

“We’ve got to get a better balance between our volume progress and our value progress,” Schofield admitted. “The problem, such as it is, is not apparent with our ‘drive’ brands, which is the lion’s share of our branded portfolio. Where we did not perform as well as we would like was in the ‘core’ brands and the ‘defend’ brands, which happen to be our smaller brands.

“In that promotional environment, the bigger brands – when they promote – tend to get off shelf. Where they get off shelf, they drive the volume that gives the value performance as well as the volume performance. Discounting as it applies to smaller brands does not drive the volume. We need to change rather than completely review what we do because in more than 50% of what we do we get the volume and the value right.”

Again, for all the positive news about Premier’s balance sheet, there remain questions about its brand strategy. In such an intensely promotional environment, and with commodity costs pressuring margins, can Premier accurately the judge the price elasticity on its smaller brands? Schofield will certainly hope so and the appointment of Tim Kelly as chief operating officer is central to Premier’s strategy to get more out of his brands.

Another pressing issue for Premier involves private label. The company’s Brookes Avana division, which mostly supplies Marks and Spencer, fell into the red in 2010. Schofield admitted the business had been Premier’s “big problem in commercial terms in 2010”. Sales were down 4.7% but Schofield preferred instead to focus on the general over-supply in the ready-meals sector, which, he said, was hurting Brookes Avana.

The Premier boss said the company was in talks with M&S over supply contracts, innovation and price increases to cover commodity costs but, crucially, the manufacturer is looking to diversify Brookes Avana’s customer base. Schofield admitted that would “take a bit of time” but, reflecting on the general health of the business, he added: “We think that we will make progress in 2011 and return this business to profit.”

However, for all the benefits of having a private-label division in Premier’s stable (in terms of capacity utilisation and procurement) it remains at odds with the company’s stated strategy of focusing on branded growth.

Some in the City believe that Brookes Avana could be a takeover target and Panmure Gordon’s Graham Jones has suggested the business could be on Greencore’s radar, should the Irish food group fail in its pursuit of Northern Foods.

Yesterday, Schofield said Premier was focusing on returning Brookes Avana to profit and “had not even thought about” the prospect of selling the business. However, there remains too much supply in that category and, should a decent offer come in for Brookes Avana, Premier could sell – not least to continue to pay down that debt and further improve its balance sheet, which still remains a concern to some in the Square Mile.