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Nestle has won through in the battle to acquire Pfizer‘s baby food business, securing an US$11.85bn deal that will see the world’s largest infant nutrition group extend its lead in this fast-growing category. However, with a hefty price tag attached, the deal has not been warmly welcomed by investors. Katy Askew reports

Nestle management was in upbeat mood this morning (23 April) as it informed the market that it has emerged victorious from the competitive auction process to acquire the baby food business of US pharmaceuticals group Pfizer. 

In a conference call with analysts, Nestle said the acquisition will be positive for sales growth, profit margins and earnings per share in the first full year that Pfizer Nutrition’s accounts are included in Nestle’s reporting. Nestle CFO Wan Ling Martello claimed the business has a “proven track-record of profitable growth”.

Nestle estimated that the unit will generate sales of $2.4bn in 2012, up from $2.2bn last year and $1.9bn in 2010. It expects EBITDA to increase by 20% this year.

Martello also revealed that Nestle expects to generate synergies of $160m.

Nestle said the Pfizer business was an “excellent” strategic fit and emphasised the strength of Pfizer’s brands. CEO Paul Bulcke said Pfizer’s brands, such as SMA and S-26 Gold, would be “complementary” to Nestle’s already formidable brand stable, which includes the likes of Gerber and Lactogen.  

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The deal will provide Nestle with increased scale in a high-growth, high-margin, category in fast-growing emerging markets, Bulcke said. 

The compelling case for expansion in emerging markets was spelled out when Nestle reported its full-year results last Friday. The company booked a 13% rise in sales in emerging markets, compared to growth of just 3.1% in developed markets.  

Pfizer Nutrition operates in more than 60 countries globally and 85% of sales are generated in emerging markets, meaning the acquisition effectively fills in the blanks on the map for Nestle. 

Significantly, the deal ups Nestle’s presence in China, where Pfizer has a 7% market share. 

The move will mean China becomes the number three market for Nestle overall and follows a number of recent M&A moves, such as the acquisition of a 60% stake in Chinese confectioner Hsu Fu Chi, as the company has looked to bulk up its presence in the world’s largest food retail market. 

The company said it expects to reap the rewards of the incremental growth of the Chinese infant nutrition market, which it currently valued at US$7.3bn. 

Kurt Schmidt, global head of Nestle Nutrition, brushed off concerns that growth was slowing in the Chinese baby food sector. Nestle expects the market to grow by 19% between 2010 and 2016. “We still see on the premium market [that] it is still growing in the double digits,” Schmidt said. 

According to Nestle, 45% plus of its growth in the category in the next five years will come from China and Hong Kong. 

Bulcke also emphasised that the acquisition expands Nestle’s presence in Asia as a whole, and Schmidt highlighted the importance of the Philippines, Thailand, Indonesia, as well as the Middle East and Mexico, where population growth and a rising middle-class is expected to drive rapid expansion of the category. 

Pfizer’s business is also weighted towards premium and super-premium brands and products, which is a “good fit” with Nestle’s own focus on the high-end of the market. 

According to Nestle, one of the most important things about selling infant food is providing credible “benefit platforms”. While “breast is best”, where this is unavailable, Nestle wants its infant nutrition portfolio to focus on products that support infant growth and development. 

At present, the Nestle infant nutrition portfolio covers “allergy prevention”, “immune protection”, “gut comfort” and “optimal growth and development”. The addition of Pfizer Nutrition will see Nestle expand its presence in three key benefit platforms: “brain development”, “picky eater” and “optimal growth and development”. 

Nestle management therefore insisted the acquisition is “highly complementary” because there is minimal overlap where the two companies’ brands are competing in the same markets on the same benefit platforms. 

In acquiring Pfizer’s infant nutrition unit, Nestle will take on a portfolio of highly-recognised brands that have been well-invested and communicate a strong health and wellness message. The natural fit with Nestle’s mission to “become the recognised and trusted leader in nutrition, health and wellness” is obvious. 

And, while the acquisition of brands that already communicate these “benefit platforms” to consumers is significant, in a science-led category the control of technologies and R&D capabilities that build on these diverse platforms is, in some ways, more of a long-term win for Nestle.  

It is also worth noting that Nestle beat off competition from French rival Danone to secure the deal. As one analyst put it, one of the benefits of the deal is that “not only does it help give Nestle’s infant nutrition business scale, it also prevents a competitor having that scale”. 

In spite of all the positives, it is interesting to note Nestle’s stock fell today, with shares down 2.8% this afternoon. The reaction could be a reflection of investor concerns over the price tag attached to the deal. 

According to Nestle, Pfizer Nutrition generated EBITDA of $500m in 2011, with an EBITDA margin of 25%. In 2012, Nestle estimates EBITDA will total $600m, again with an EBITDA margin of 25%.  

The acquisition price therefore represents a fairly hefty 19.8x 2012 estimated EBITDA, Nestle said. However, if we look at 2011 – the last full year that financial data is available for – suddenly the deal seems even more pricey, at 23.7x EBITDA.

As Kepler analyst Jon Cox tells just-food: “The deal makes strategic sense as it gives them greater scale in Chinese Asia in infant nutrition and will boost earnings and sales and margin for the group. However, it is expensive and will likely hurt shareholder value in the short term.”

Some anxiety may also surround potential regulatory hurdles, which could compel Nestle to sell off significant chunks of the business. 

Nestle said it was too early to comment on whether the deal, which remains subject to regulatory approval, would be hampered by competition issues. However, in a note to investors last week, Bernstein analyst Andrew Wood suggested that Nestle could face anti-trust concerns with around one-third of the Pfizer business. 

“We would estimate that up to about 35% of sales of the Pfizer Nutrition business could be at “high-risk” of requiring some anti-trust remedies,” he said.

So, while the deal looks set to extend Nestle’s leadership in the baby food category, the competitive scene in the global infant nutrition sector remains in a state of flux, with the likes of Heinz and Danone waiting in the wings to pick off the morsels as Nestle meets the requirements of competition regulators.