Focus: The crown slips

A mistimed and clumsy buyback failed to put a floor under the share price. Activity on the corporate front was no better. Repeatedly beaten to the finish line by private equity companies for a number of acquisitions, Kerry joined forces with J P Morgan Partners and Blackstone for a run at Birds Eye, the frozen-food business, in August.

Even with this heavyweight backing, Kerry was outbid by Permira, a private equity company.

Last week, Kerry confirmed the market’s fears when it unveiled its interim figures, showing growth of just 1.5% in trading profit for the first half of the year.

The swashbuckling corporate giant that grew out of the county known as “the Kingdom” now finds itself under sustained attack. Its executives were once considered near- royalty among Irish institutions; but now the Kerry boss must feel his crown is slipping.

“Hugh must consider himself incredibly unlucky,” said a long-term institutional holder of the stock. “Having spent most of his career as No 2 (in charge) of a hugely successful operation, he now finds himself in the No 1 slot with things going wrong — and mostly beyond his control.

“There’s a nagging voice in the back of my mind saying Kerry has lost its way and some big decisions need to be made. But Friel only has a few years left before he retires.

“Does he really want to go out there at this stage and do something risky that could destroy his reputation?”

THERE are fewer bigger or more fabled reputations on the Irish stock market than Kerry’s management.

The company headquarters in 1972 were a 22ft rented caravan plonked in the middle of a muddy field. There Brosnan, Friel, from Donegal, who joined as chief accountant, and Denis Cregan set about building an empire. A mere two years after floating on the stock market in 1986, they put in a $135m bid — equal to Kerry’s own market value at the time — for Beatreme, a big American food ingredients player. The trio had well and truly arrived.

“There was a certain arrogance about the Kerry boys when they’d meet the financial community. They exuded a real ‘can-do’ attitude,” said a senior Irish fund manager.

In 2000, the Kerry Way, a 460-page tome chronicling the history of the group, was published. In it, Brosnan is reported as having once declared that a successful management team needs a dreamer, a numbers person and an SOB.

“There was little doubt that Brosnan saw himself as the dreamer — or the visionary genius,” said another fund manager. “But it was Friel who executed the master plan. He was the number cruncher. The man who sealed the deals.”

Once a darling of the Dublin stock exchange and a safe haven when volatility struck, its market capitalisation peaked a year ago at almost €4 billion. From peak to trough its value fell by almost €1 billion this year.

Kerry’s financial targets have always been clear: ramp up earnings by 15% a year through organic growth and acquisitions. And that’s precisely how it worked out until this year when the company got its sums wrong.

“We’d managed to implement price increases in America earlier this year, but it soon became obvious that energy- related prices were continuing to chase upwards,” said Friel.

It will be next year before Kerry will be able to recover these costs.

Kerry confounds its critics by rigidly, even stubbornly, refusing to make calls on where energy or raw material costs are heading.

“We take it on the chin in a particular year. I don’t want to be telling people in a year’s time that I have a warehouse of black pepper or vanilla beans that were bought when prices had sky rocketed but had since hit the floor,” said Friel.

“It’ll be a few years before (they are back on track) and it’ll require two things,” said Liam Igoe, an analyst with Goodbody Stockbrokers. “First, getting organic growth back to where it was requires stability in international energy prices. Secondly, they also need to carry out some acquisitions — not just the small, bolt-on ones we’ve been seeing of late. And they need to be at the right price.”

Friel said: “This year alone,our direct energy costs will have gone up €50m, with another indirect (impact) of €30m.

“We’ll only be able to recover €60m of that (from price increases). When you add a negative effect from currency translation, you’re taking a substantial hit.”

With the market pricing in no profit growth this year, Kerry is counting on oil and raw material prices stabilising in order to meet consensus expectations for earnings to edge up 5% next year. Analysts reckon that this could be wishful thinking.

Meanwhile, the predatory presence of private equity companies with billions of euros in cheap cash looking for a home has presented Friel with a problem his revered predecessor never had to face.

“Private equity doesn’t have to have the same market discipline that is required of a quoted company when it comes to making acquisitions,” said a corporate financier.

With an operating cashflow of more than €300m a year, Kerry has no problem finding money. “But private- equity firms can be very aggressive in the way they structure and layer debt into these deals — in a way that doesn’t stack up for a trade buyer,” the financier added.

Sixteen months ago, Kerry lost out to PAI Partners, a European private equity company, in the race to buy the food ingredients unit of Denmark’s Chr Hansen.

Friel says he takes comfort from the fact that Kerry has not lost out to a trade buyer. However, the only other sizable European food ingredients company to list over the past 18 months — a unit of German speciality chemicals group Degussa — was bought from under Kerry’s nose by Cargill.

Bereft of ideas as to what it should do with its spare cash, Kerry decided to launch a share buy-back programme at the end of June designed to take 1.5% of its stock off the market.

“It was an unmitigated disaster. They told the market when they would be buying the shares and how much they would be paying,” said a fund manager. “Instead of boosting shareholder value, they managed to destroy it.”

After blowing €50m to buy back the shares, management could only look on in horror as the stock continued to slide.

Some large investors say Kerry should hive off its struggling consumer foods division, the Irish and British chilled foods business that makes up about one-third of the group’s €4.5 billion annual sales.

The proceeds, they argue, could be used to fund expansion in food ingredients, particularly in the promising Asia Pacific region, which is swallowing up a lot of capital for greenfield expansion.

Like-for-like sales in consumer foods edged just 0.2% higher in the first half of the year. But it’s a move Friel rules out and would be difficult to get past the farmer shareholders who own 28% of the stock.

“Chilled foods is an area that grew extremely strongly in the 1990s and earlier this decade,” said a London-based food companies analyst. “It has since slowed to a pedestrian rate amid growing competition, huge pricing pressure from the multiples and growing concern among the public about preservatives, salt and fat.” Indeed, the recent appearance of Kerry as a joint bidder for the Birds Eye brand struck many observers as a move in the wrong direction.

Sources in the Tralee company say, however, it was out to protect its interests as an outsourced manufacturer of Birds Eye meals at its Rye Valley plant in Monaghan. The confusion just puts more pressure on the chief executive.

BACK at the ranch, Friel, 62, refuses to throw in the towel — for the time being, at least. “I’m as fit as I was 30 years ago. It’s all about how you feel when you get out of bed every day. And I couldn’t feel better,” he says.

Investors, though, are anxious about succession plans. The passing of the crown from Brosnan to Friel has hardly been smooth. And while it’s widely expected that Friel’s replacement will come from within the group, chief financial officer Brian Mehigan has yet to make much of an impression on Dublin’s financial community. In the meantime, diehard fans of the group believe Friel is the right man to steer this ship. “It’s a hard slog out there in the food industry and Kerry needs a steady hand,” said Frank O’Brien, a financial markets consultant and managing director of Investment Strategies. “Friel may not have been the visionary that Brosnan was, but he’s the man to knuckle down to carry out housekeeping, concentrate on cost-cutting and getting synergies.”

For other faithful followers of the regal Kerry, steady as she goes may not be enough.

THE KERRY STORY

FARMER Eddie Hayes spent a decade trying to persuade fellow dairy farmers in Co Kerry, left, that a milk-processing factory had to be built for them to survive.

Hayes finally managed to set up a plant in 1972 in Listowel and brought in 27-year-old local lad Denis Brosnan as his first employee. The aim was to help farms boost income from their milk by turning their cream into butter and selling on the remaining skimmed milk.

Having floated the former co-op on the stock exchange in October 1986, Brosnan and fellow managers Hugh Friel and Denis Cregan set their sights on expansion abroad.

Kerry now has manufacturing operations in 19 countries on five continents employing more than 23,000 people. It supplies more than 10,000 food ingredients and flavour products to customers in more than 140 countries. Its dairy and meat brands, include Golden Vale, Dawn, Denny, Mattesons meats and Homepride flour.