Glenboden M & A Originations

Nestle purchase of Kraft frozen pizza brings hope to private equity investors

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Origination Status announcement of deal agreement, January 2010
Asset Kraft's frozen pizza business, market leader in the US and Canada
Buyer Nestle Group (Switzerland), global no.1 food company
Seller Kraft Foods Inc (USA), global no.2 food company
Buyer Rationale market leadership in new category in north America, stretchable brands
Seller Rationale to raise cash for Cadbury acquisition, business transformation strategy
NBs the business includes the brands DiGiorno, Tombstone, California Pizza Kitchen, Jack’s and Delissio
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This transaction is quite a surprise for us. In an era where 'real food' is under severe margin pressure, and generally out of favour with the big public companies, Nestle goes and buys a huge frozen pizza business. This brings unexpected hope to private equity players, notably CapVest, Permira and Blackstone, that they might find a strategic buyer for the big frozen foods bets that they've made.

Hitherto a target category for private equity ...This deal certainly bucks the trend, whereby frozen pizza and other foods have been divested, in recent years, by the big food groups, and acquired by private equity firms, as the former shift their attention to higher margin businesses with greater innovation potential.

CapVest, controlled by Lion Capital, acquired a number of frozen foods brands in the early 2000s, including Young's and Findus. Then, in 2006, Permira bought Igloo Bird's Eye from Unilever. This signalled frozen foods becoming a private equity -dominated category, at least in Europe.

This view was compounded by reports, in late 2009, that Unilever was considering the sale of its Italian frozen foods business, Findus Italy, with Lion Capital and Permira, again, cited as the most likely buyers.

In parallel, Blackstone acquired the north American Bird's Eye frozen foods business, through Pinnacle Foods, in late 2009.

... deal suggests return of food groups to frozen category ...Now, out of the blue, Nestle announces a major frozen food acquisition. This goes against the grain of its M&A strategy which, certainly in developed markets, has been focused on health and wellness, with the Novartis Healthcare Nutrition and Gerber purchases being the most salient examples.

Why such a move ? Nestle has cited synergies over five years. However, this is not a huge story by any means; the group's hitherto presence in frozen pizza has been minor in that geography and, according to Kraft, Nestle will be taking on manufacturing capacity as part of the deal. So the synergies might be limited to supply -chain overlaps with its ice cream business in the region.

... with brands being a major motivationMore likely, Nestle sees the potential to to stretch the brands that it's acquiring into more premium and/or chilled categories; the group has already established market leadership in prepared dishes and hand-held product categories, in north America, under its own brands.

Deal gives confidence for private equity exits ...At least the deal should bring cheer to the aforementioned private equity firms. They had previously been looking at further consolidations and IPOs, as their most likelt exit route from their frozen foods assets; now it looks like strategic sale could also be an option for them.

... possibly at attractive valuationsAnother boon for those private equity players is the valuation story. At an EBITDA multiple of 12,5 this deal is at a premium to the comparative transaction of Permira - Igloo in 2006 (x10), and to estimates for the Findus Italy deal (x8 - 10).

Kraft divesting a core asset ...But why is Kraft making this disposal ? On the face of it, it's not quite ripping out its own heart, but something approaching that.

... with significant and growing revenues ...With sales of around US$ 2 bln in 2009, the business being sold accounts for nearly 50% of the group's US convenient meals segment, which is clearly a core one, being bigger than nearly all of its other product categories (see chart).

In addition, apparently frozen pizza delivered double -digit sales growth for Kraft, over the last four years.

... and relatively high margins ...Then there's the profitability hit that the divestment entails. With an EBITDA margin of around 14% of sales, this business delivers higher profitability than Kraft's average, which came in at under 12% in 2008. This at a time when the group is focusing on margin enhancement.

... suggesting a major gamble given Cadbury bidWe believe that Kraft's making a huge bet, by selling this growing and profitable core business, at a time when its bid for Cadbury is still in the balance.

Presumably Ms Rosenfeld has a very high level of confidence that the Cadbury deal will go ahead. If it doesn't, then this will look like a major downsizing move by Kraft. If it does, then the package will be lauded as a masterpiece of business transformation.

The stakes are very high for Kraft; shareholders of Cadbury might be advised to hold out for a higher offer as the deadline approaches, later this month.

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Size (€ mln) 2.600
Sector frozen foods
Asset Quality US no.1 branded
Seller large plc
Buyer large plc
P/S 1,8
P/Ebitda 12,5
Type total cash consideration
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