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  1. Analysis
February 3, 2012

In the spotlight – Question marks over Unilever’s food unit return

Unilever's food division has been under the microscope in recent months, with a series of disposals and growth in many categories slow, lagging behind its more buoyant non-food businesses As Michelle Russell writes, this week, as Unilever reported its 2011 results, the scrutiny returned.

Unilever’s food division has been under the microscope in recent months, with a series of disposals and growth in many categories slow, lagging behind its more buoyant non-food businesses As Michelle Russell writes, this week, as Unilever reported its 2011 results, the scrutiny returned.

There have been a number of question marks about Unilever’s food business in recent months, from speculation over the sale of its spreads business to suggestions the firm is pushing into non-food at the expense of grocery.

This week was no different, as CEO Paul Polman took to the floor to field questions on the Anglo-Dutch group’s full-year earnings results yesterday (2 February).

Polman said 2011 had been “a challenging year, probably one of the most challenging in my career”. Indeed, along with all other businesses, Unilever has had to battle sluggish US and European markets over the last 12 months, challenging economic conditions and rising raw material prices.

Nonetheless, the CEO remained upbeat on the group’s results, reiterating its 1% increase in annual profits on the back of a 5% rise in turnover, boosted by its non-food divisions.

However, Polman notably said Unilever’s performance had been “driven by outstanding growth in emerging markets and the home and personal care categories”, highlighting how tough the company has found it to generate growth from much of its food businesses.

Polman was forced to defend the performance of the group’s food business after a recent decline in the division’s sales volumes accelerated in the last three months of 2011. Underlying volumes from Unilever’s foods division fell 3.9% in the fourth quarter of the year, leading to a 1.2% decrease for the whole of 2011.

The figures may have come as little surprise to many in the industry who have, in the past, questioned whether Unilever’s food division is a viable enough business unit to remain as a part of the group.

Investec analyst Martin Deboo, believes the fact that Unilever’s food division is heavily weighted in the developed markets has worked against the firm in recent years.

“I’m not sure how much people appreciate this, but Unilever is really a food company in developed markets and a home and personal care company in developing [markets], so it is suffering along with the rest of the food industry in developed markets,” he told just-food yesterday.

Fitch Ratings analyst Pablo Mazzini believes the decline in underlying volumes was down to a combination of high commodity costs and weak consumer spending.

“Q4 showed an elasticity of demand due to high legacy inflation,” Mazzini told just-food. “People are still buying food and shampoos but savvy consumers are making careful purchase decisions these days, focusing on promotions and private labels or low entry point branded products. This is a near-to medium-term effect I think, driven by the protracted economic cycle.”

Longer-term, however, Mazzini believes Unilever’s growth prospects are limited in developed markets due to demographics and higher health awareness.

This may go some way to explaining why the consumer goods giant has, in recent years, begun disposing of some of its food brands in developed markets and the process continued last year.

In October, US firm B&G Foods acquired Unilever’s Mrs Dash seasonings, Molly McButter butter sprinkles, calorie-free sugar substitute Sugar Twin and Baker’s Joy, in a US$325m deal. In August, Unilever also sold the UK and Irish rights to its Chicken Tonight and Ragu cooking sauces brands to Symington’s.

Meanwhile, the company has made major acquisitions outside of food, including US haircare business Albert Culver and household and body care brands from Sara Lee – further fuelling speculation that its focus turning more to household and personal care.

Some industry observers have suggested that Unilever might look to offload more individual food brands in the near future.

The spotlight has moved to Unilever’s spreads division, which accounts for around 7% to 8% of the business.

Polman has always refused to be drawn on whether the company may one day move to sell the business and yesterday the CEO defended the unit’s performance, attempting to cement its position in the company with an upbeat outlook and assurances of its contribution to group earnings.

“It is a business that generates a significant amount of cash and profit for the company, allowing us to finance expansion in other parts of the business,” he told analysts. “Looking forward we are hopeful that 2012 will bring a more stable cost and price environment, allowing us to better adjust the effectiveness of the actions we are taking to run spreads differently.”

Analysts are less optimistic. Jon Cox, head of Swiss research at Kepler Capital Markets in Zurich, expressed a belief that Unilever will sell the spreads business, in time.

“I ultimately think the spreads business will be disposed of, but I think Polman made it pretty clear today that they are going to use the cash flow from the spreads business – it’s a very high-margin business with 20% operating margin – to expand their home and personal care business, to do bolt-on acquisitions.”

Deboo, on the other hand, believes Unilever’s spreads business will be a fixture “for some time to come”, given its value to the company.

“I think that the market would like to see [Unilever] sell the spreads business, but I’m not sure the market has really understood firstly, how profitable that business is and therefore if they sell it then it would be very dilutive to margins and earnings, and secondly, there is no realistic alternative buyer of that business because Unilever are more than twice the size of the next biggest player in spreads.

“Polman has given pretty firm signals … that it is not for sale,” he added. “But what I think he might do is sell the tail-end of the food portfolio, most obviously mustards and condiments, and reinvest the proceeds into personal care acquisitions.”

Mazzani agrees Unilever’s condiments could be sold but includes its flagship spreads brand Flora in the list of businesses that could yet be offloaded.

“Unilever has divested low growth food businesses in the past, as Birds Eye, despite its high profitability and high cash flows. So one could argue other low growth (food) categories could well be up for sale,” Mazzini told just-food. “Here I would include Knorr, Hellmann’s, and Flora for instance.”

Mazzini points out, however, that there may be a stumbling block in any sale of brands such as these.

“The problem with selling these brands is that, unlike Birds Eye, which was limited to Europe, these are more widespread, even global brands, so I don’t think it will be easy to find a single buyer for them.”

The outlook for Unilever’s foods division is certainly hazy.

Polman conceded yesterday that he would have preferred “a better mix within volume and pricing” from its food division in 2011 but added: “Let’s not get carried away, over the last three years this business has grown 3.5%.”

While Cox believes Unilever secured a “pretty good” performance yesterday, and Mazzini labelled it “decent given the significant headwinds”, Deboo was less sympathetic.

“It’s going to be difficult to get back underlying volume growth,” he told just-food. “I think volume growth in a heavily developed market is going to be hard. The obvious thing that would make a difference is if commodity costs fall more aggressively than we think, then that will be reinvested in pricing. Other than that you’re looking at market share gains on the back of product launches. But I’m struggling to see how it could be a positive volume outlook on food in FY12.”

Nonetheless, Polman remains confident that the company is in a “good position” to win with spreads in the future. Only last March, the CEO said Unilever was focusing on “accelerating” the growth of the spreads business in Europe and North America.

And of course, in the company’s wider food and refreshments portfolio Unilever is the world’s largest producer of ice cream, with brands including Magnum and Ben & Jerry’s. Unilever’s position in ice cream suggests the firm is unlikely to completely exit the food sector.

In the words of Polman yesterday, “it is better to make the dust than eat the dust … we are confident as a company that we are making the dust.”

Okay, he was reflecting on the performance of Unilever as a whole, but although its spreads unit does face significant challenges, it still generates a significant amount of profit for the Anglo-Dutch firm, and that is hard to ignore.

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