Sara Lee has found itself facing a crisis of confidence after lowering its full-year outlook and flip-flopping on whether or not to suspend its share buyback programme. With worries over its international businesses abound, the company now has an uphill struggle ahead of it as it looks to win back favour in Wall Street. Katy Humphries reports.

“I personally have very high confidence,” Sara Lee CEO Brenda Barnes tells analysts during a conference call.

However, she could be among the minority on this point.

In a sign of Wall Street’s collective nervousness on Sara Lee’s prospects, shares in the company dipped 14% last Wednesday (5 November), declining from an open of US$11.39 to close at $10.20. Since then, Sara Lee’s share price has failed to rebound, closing Friday at $10.00.

One of the primary reasons for this decline was Sara Lee’s move to lower its full-year outlook.

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Sara Lee says that it now expects full-year earnings per share to fall in a range of $0.99 to $1.06. This is down on previous EPS guidance of $1.12-$1.20 for the year.

Sara Lee posted first-quarter earnings growth of 15% on sales that were up 9.6%. Gains were driven by price increases to help offset higher input costs, favourable foreign currency exchange rates and strong unit volumes in the North American retail and fresh bakery segments.

Currently, Sara Lee’s US and Canadian businesses are benefitting from the economic slump as consumers increasingly look to save money by eating at home rather than eating out. However, there is a fear that if conditions continue to worsen, North American sales could be hit by consumers switching from branded goods to own-label alternatives.

This trend has dented sales at Sara Lee’s European businesses – which generate almost 50% of total revenue. The company says it is seeing weakness in Europe, particularly in France, the UK and Spain.

According to Barnes, Sara Lee is struggling to maintain volumes as it tries to push price increases through due to the competitive nature of European markets. Economic pressures, especially in Spain and France, resulted in weak volumes in the international bakery segment, where overall unit volumes fell 11.5% in the quarter.

“What you find … is increasing competition and pricing cuts because everybody is trying to go after a market that is under a lot of pressure,” Barnes says.

The company says that it expects these pressures to continue in the near-term. “We don’t have a prediction in terms of when those economic conditions will change,” Barnes says. “There are a lot of economic conditions that will effect our trends.”

In an investor note Stifel Nicolaus analyst Christopher Growe warns that Europe had previously been one of Sara Lee’s highest-margin and fastest-growing businesses. The downward trend in its international business is a significant threat to Sara Lee’s ongoing performance, Nicolaus says.

“Europe in general is challenged and presents a meaningful risk,” he writes.
Mornnigstar analyst Erin Swanson concurs that the struggling international business now requires attention.

The strong North American performance offsetting weak international results is a reversal of a trend noted in previous quarters, when European operations were the stronger of the two.

“What they were able to do in their North American business was fairly impressive,” Swanson tells just-food. However, she adds, Sara Lee now needs to “get going on all cylinders.”

Sara Lee has struggled to inspire investor confidence ever since it showed an inability to live up to management’s expectations last year, issuing operating margin targets that it failed to hit and subsequently withdrew.

“This crisis of confidence was complicated when they suspended their share buyback programme on Wednesday. Stock then tanked, dipping 14-15% that day and about 7-8% the next. They were sending mixed messages to the market: on the one hand, they were saying that stock was trading low and on the other they put buyback plans on hold,” Swanson says.

Just one day after Sara Lee announced it would postpone its share buyback programme, due to instability in the financial markets, the decision was reversed. The company said the declining share price means it will buy back stock “on an opportunistic basis”.

The question marks hanging over its international business and the “mixed messages” being sent about share valuation informed the markets’ response to Sara Lee’s results and, to an extent, overshadowed some of the “good news” tucked away in Sara Lee’s first-quarter.

While Sara Lee says operating margins are expected to remain flat in fiscal 09, the company is building on the ongoing restructuring programme with a new cost cutting initiative – dubbed “project accelerate”. Sara Lee predicts that by 2011 project accelerate will be achieving annual savings of $200m.

“Fundamentally we have made significant underlying improvements in our business. The transformation required… a lot of building blocks. I think we are more than halfway through in terms of getting the capabilities in place and we are less than halfway through in demonstrating to all of you what kind of company we are,” Barnes tells investors.

Indeed, with continued scepticism weighing down Sara Lee shares, the company has a long way to go to convince the market of its direction. And the only way Sara Lee will achieve this is by consistently producing strong quarter after strong quarter.