LESS than 12 months ago, the stock market loved Premier Foods. The company’s
shares were riding high – poised to top 300p. Under the vigorous leadership
of Robert Schofield, the company had shown itself adept at reinvigorating a
clutch of tired but iconic brands it had taken under its wing. It was
admired and envied.
With this following wind of investor support, Schofield felt sufficiently
confident to launch a deal that would transform the company. He and Premier
chairman David Kappler fixed up a series of secret meetings with Jan du
Plessis, chairman of rival foods group RHM. And that transformational deal
was done: Premier agreed to buy RHM. The price, including RHM’s debt and
pension liabilities, was almost £2 billion. The takeover doubled the size of
Premier.
The bid was disclosed in The Sunday Times on December 3 last year and
confirmed the next day. Within 24 hours, Premier’s share price had topped
300p for the first time since the company was floated on the stock market in
the summer of 2004.
But now, only two weeks short of the first anniversary of that coup, Premier
is looking distinctly unloved. Its shares last week slid below 200p, their
lowest for three years. Investors who bought the shares at 215p when the
company was floated are now nursing a loss. The share price has fallen by
more than a third since the RHM deal.
So what went wrong for the former stock-market darling?
The biggest headache for Premier has been the bread-baking business it took
over with the purchase of RHM. Wheat prices have soared. In July last year,
just as Schofield was plotting the RHM takeover, UK wheat for milling was
less than £80 a tonne. By the time the deal was struck in December, it was
more than £90. In July this year, it rocketed beyond £120 a tonne, and
subsequently nudged £200.
In September, when Premier delivered its results for the half year to June,
the company said: “Over the summer, the price of wheat has seen an
unprecedented level of increase, rising in a matter of weeks to a level
approximately double that of 2006. This is a significant issue for the whole
of the food industry, not just bread baking.”
To describe the wheat price as a “significant issue” scarcely reflected the
scale of its impact. In the first six months of the year, trading profits
from Premier’s bread bakeries were half the level of the equivalent period
in 2006. The fall amounted to a £19m hit. Analysts at investment bank Citi
reckon bread baking will make operating profits before depreciation of just
£25.5m this year; in 2006, the comparable figure was £68m.
Of course, Premier’s baking business, best known for Hovis, is not the only
British bread business facing soaring costs. And the company has just
succeeded in pushing through a price rise – the second since the summer – to
try to recoup some of the higher costs. But the stark fact is that Hovis’s
price increases have caused customers to switch to competitors such as
Warburtons and Associated British Foods’ Kingsmill. Charlie Mills,
food-industry analyst at Credit Suisse, has estimated that in the first six
months of this year, Premier’s volumes of branded bread fell 10% and its
market share slid from nearly 19% to about 17%.
Premier last week admitted that Hovis was still struggling to compete. In a
trading update for the four months to the end of October it said: “While the
retail price of our bread has risen, we have only recently started to see
similar increases in the retail price of other bread brands. Consequently,
we have seen lower volumes and, combined with the impact of the higher wheat
prices, trading profit for the division has been significantly lower during
September and October than the same period last year.” Decode this, and the
message is clear: in the bread market, Premier has been clobbered by its
rivals.
So is Premier’s poor share-price performance due only to the squeeze on bakery
profits? Not entirely.
Premier is highly geared compared with most of its competitors: last year’s
takeover of RHM – paid for partly by issuing new shares and partly by cash –
left the company with net debt of £1.8 billion. The interest rate on most of
the debt is fixed or capped, but nevertheless, the company is more
vulnerable than most to any rise in interest rates.
And then there is the performance of the operations it owned before last
year’s rash of activity.
In the first six months of 2006, profits from Premier’s established businesses
were actually slightly down – admittedly in large part because the company
lost some own-label business and the rights to produce some Cadbury brands
under licence. And Campbell’s – bought in a £460m deal in July last year
that brought with it brands such as Oxo, Batchelor’s, Homepride and Fray
Bentos – saw underlying profits fall by nearly a third as Premier spent
heavily on pro-motions to try to bolster sales.
The uncomfortable fact is that Premier’s “core” businesses – those it owned
before the Campbell’s and RHM deals – have shown little organic growth in
the past four years. After a rocky first half of 2007, these divisions have
returned to growth only in the past few months.
The City’s hopes of profit growth are founded largely on the company’s
prediction that it can squeeze annual cost savings of £85m out of the
combined Premier / RHM by dovetailing operations. Indeed, in July, the
company announced the closure of six factories.
For those with long memories, Premier’s reliance on acquisitions for its
growth brings an uncomfortable reminder of Hillsdown, the company to which
Premier’s roots can be traced. Between 1985 and 2000 Hillsdown showed a
spectacular appetite for takeovers: in a single year, 1987, it bought 50
companies – about one a week.
Premier, too, has been acquisitive: even before the RHM deal, it had spent
£1.2 billion on takeovers since 2002. But there, thankfully, the analogy
ends. Premier has at least had the discipline to stick with the food
industry. Hillsdown, which started in poultry, meat and canning, diversified
in some bizarre directions, buying companies in stationery, housebuilding,
even furniture.
And unlike Hillsdown, Premier strives to boost profitability by managing its
businesses centrally; Hillsdown let its subsidiaries run virtually
independently.
As profit forecasts have been downgraded and the share price has slid over the
past few months, Premier has consistently declared that its cost-cutting
plans are on track. The forecast £85m-a-year in savings from integrating RHM
are achievable, said the company last week. And it reckons it can secure the
£28m of cost cuts predicted for the Campbell’s businesses.
Set against that, some analysts are beginning to think that maybe Premier’s
shares now look startlingly cheap. Under the heading “Basket case?”, analyst
Jeff Stent from Citi said in a note to investors last week that the current
share price suggests that there will be further big cuts in profit
forecasts. In fact, he said, “excluding bread, Premier’s business is
performing well, input cost inflation is being recovered . . . and
integrations are proceeding as planned”. Stent predicted that, although it
might take time, Hovis should recover its lost customers. If Stent’s
forecasts are correct, Premier shares, which closed on Friday at 204½p,
trade on less than 10 times expected earnings for 2008.
At Investec, analyst Martin Deboo said last week: “While 2007 will be a year
to forget for Premier, a more secure foundation for growth and profit in
2008 is now in place.”
All very bullish stuff. But upbeat comments such as these didn’t stop
Premier’s share price from falling yet further in the subsequent few days.
Premier still has a huge amount to do to recover the City’s affections.
