Unilever chief now under pressure to deliver on reforms
Seeing off Kraft Heinz bid should be ‘wake-up call’ for group, analysts say
Relief coursed through Unilever’s riverside London headquarters on Monday, after the group saw off Kraft Heinz’s $143bn takeover proposal barely 48 hours after it was revealed.
Paul Polman, chief executive, who led the board’s efforts to lobby against the offer “was very determined”, says one person present at the weekend meetings.
But, while Mr Polman succeeded in warding off the US group’s proposal — with the backing of some shareholders — many analysts warn the century-old company could not simply return to business as usual.
“This doesn’t mean that Unilever is out of the woods,” says Warren Ackerman, an analyst at Société Générale. “This near miss should be a wake-up call for Unilever that maintaining its independence and culture is not a given.”
The pressure is now on Mr Polman to accelerate, or at least deliver, on reforms he outlined last year, which form the backbone of a three-year plan to improve profitability and growth at the UK’s third-largest company by market value.
Andrew Wood, an analyst at Bernstein Research says that despite the kudos of seeing off Kraft Heinz, “we believe that this has been a somewhat humbling and chastening experience for Polman and Unilever.
“How can a €53bn sales company (with €112bn market cap, before the bid was announced) be put under threat from a US corporation less than half its size in sales?” he adds.
Unilever’s share price fell more than 6 per cent on Monday but remains higher than it was before Kraft Heinz’s interest emerged on Friday.
One top 15 shareholder praises Mr Polman, whose model of long-term growth based on sustainable business practices is at the opposite end of the cost-cutting profit-driven model of 3G Capital. The private equity group, led by Jorge Paulo Lemann, the Brazilian billionaire, is the biggest shareholder in Kraft Heinz along with Warren Buffett, chairman of Berkshire Hathaway investment group.
“Polman is doing a good job,” says the shareholder. “The Kraft Heinz model is very different — it is based on cutting costs and maximising margins, not reinvesting back into the brands”.
Unilever is an unusual hybrid of a food, home care and personal care businesses with no directly comparable rivals.
But even Mr Polman acknowledges that the group’s operating profit margins, especially in its homecare and foods business, are still too low — its core operating profit margin of 15 per cent is half that of Kraft Heinz.
In addition, the company’s free cash flow conversion, of 82 per cent, is well below the average for home and personal care companies, of 100 per cent, according to Bernstein.
To sharpen its performance, Unilever last year adopted three policies aimed at generating €1bn of savings by 2019, all with echoes of 3G’s practices. These include zero-based budgeting — when managers have to justify costs each year from zero — and a plan to incentivise senior managers with shares to generate a more entrepreneurial culture.
First, Unilever has said it will target an improvement in its operating profit margin of 0.4-0.8 percentage points (up from 0.2-0.4 percentage points); second, it is aiming for underlying sales growth of 3-5 per cent — the actual growth rate last year was 3.7 per cent — and finally it has committed to increasing the rate at which it converts earnings to free cash flow to 90 per cent.
Another consequence of Kraft Heinz’s approach could be to increase Unilever’s resolve to sell its underperforming margarine and spreads business, which accounts for 5 per cent of sales but continues to suffer from falling revenues.
Some investors could also ramp up the pressure on Mr Polman to be more ambitious on M&A by seeking a large takeover, such as of the US group, Colgate-Palmolive. So far his policy has centred around small bolt-on acquisitions — such as Dollar Shave Club and prestige skincare brands.
Mr Polman argues that more value is generated for shareholders by acquiring small businesses and then ramping up sales.
The question is whether his measures go far and fast enough. Martin Deboo, analyst at Jefferies says: “Fortunately Unilever has a plan, albeit a less hair shirt one [than Kraft Heinz].”
If Unilever had to go further, he says it might consider selling more — or even all — of its foods businesses such as Hellmann’s mayonnaise and Knorr stock cubes.
“With Unilever looking even keener to exit its spreads business but with a spinout difficult with such a weak top line, might there be a deal to be done with Kraft Heinz for either spreads or spreads plus Hellmann’s, or even the whole smorgasbord?”
Mike Fox, head of sustainable investments at Royal London Asset Management, which holds a 0.66 per cent stake in Unilever’s UK-listed shares, says: “We backed the management’s decision to reject the bid by Kraft Heinz and we have no concerns with the strategic direction of Unilever.”
But he adds: “The challenge for Unilever management now will be to deliver the recently announced strategy of improving margins and above-market growth.”