Glass half full?

By Huw Thomas

On 19 January 2010 it finally happened. One of the biggest and most protracted business deals to hit the food industry for years finally drew to a close as shareholders of UK confectioner Cadbury finally agreed to accept the £12 billion (€14 billion) takeover bid from US giant Kraft.

“The pizza deal was particularly dumb. I just hated to see them give up a significant portion of those businesses to buy Cadbury. We expect to do some dumb things, but we get mad when other people do dumb things.”
- - Warren Buffet

The deal was the culmination of an affair that had been rumbling on for four months. Initially approaching Cadbury with a cash and share deal in September 2009 worth £10.2 billion (€12 billion), Kraft was rebuffed, kicking off a period of fractious bartering between the two companies. It was only after a huge amount of public wrangling that Kraft finally got its man.

For Kraft, the Cadbury deal represented an excellent opportunity for a company still largely centred on the US to expand quickly into the European market. Particularly attractive was the UK confectioner’s strength in areas like chewing gum, a sector that has experienced strong growth in recent years, despite the difficult trading environment. A combined Kraft-Cadbury would be expected to control some 25 percent of the gum market in Western Europe. In addition, the acquisition will make Kraft the world's largest confectioner and the leader in sweet snacks. The confections and snacks segments – at 30 percent and 21 percent respectively – will now make up the majority of Kraft's portfolio. The deal also gives Kraft a foothold in emerging markets like India, South Africa and Turkey. In addition. Kraft contend that the takeover will enable cost savings in the region of $675 million (€527 million) per year, leading Kraft CEO Irene Rosenfeld to confidently predict a growth in earnings for 2011.

However, not everybody saw the tie up as such a good deal for the US company. Investor Warren Buffett, the closest thing the business world has to a soothsayer, was quick to voice his concerns that the acquisition might not be in Kraft’s best interests. In particular, he believed that the sale of Kraft’s frozen pizza business to Nestle – completed in order to finance the deal – did not provide the best amount of value. Buffett’s words tend to carry a lot of weight in financial circles. In this case their impact was potentially even greater as his firm Berkshire Hathaway is Kraft’s largest shareholder. In a statement issued two weeks before the deal finally went through Berkshire Hathaway said: “To state the matter simply, a shareholder voting ‘yes’ today is authorising a huge transaction without knowing its cost or the means of payment. What we know with certainty, however, is that Kraft stock, at its current price of $27, is a very expensive ‘currency’ to be used in an acquisition. In 2007, in fact, Kraft spent $3.6bn to repurchase shares at about $33 per share, presumably because the directors and management thought the shares to be worth more.”

Ultimately, Kraft’s management were able to push the Cadbury deal through without shareholder approval, much to Buffett’s chagrin. Speaking at the Berkshire Hathaway shareholder meeting in May, the so-called Sage of Omaha maintained his hard line. “Both deals were dumb,” he said. “The pizza deal was particularly dumb. I just hated to see them give up a significant portion of those businesses to buy Cadbury. We expect to do some dumb things, but we get mad when other people do dumb things.”


The fact that the whole takeover saga dragged on for so long has cultural as well as financial roots. Cadbury is a British institution, founded by devout Quaker brothers in the 1840s and closely tied to the communities in which it has been based ever since. Brands like Dairy Milk and Crème Eggs have been a touchstone of childhood memory in the UK for generations. That these icons could soon be absorbed by a foreign corporation like Kraft has been tough to swallow for many patriotic and nostalgic Brits. Also with its superpower days long behind it, Britain is unusually sensitive to any perceived imperialistic slight from its former colony. Viewed through this lens, the howls of protest that greeted news of the takeover make a degree of sense, even if they erroneously depict Cadbury – a global company with an annual income of €440 million – as a naïve British innocent menaced by a ravening corporate monster from across the Atlantic.

Nonetheless, these reactions do raise issues around exactly what the Cadbury brand means to many consumers. In the wake of the highly publicised battle for the firm, any deviation from the qualities and characteristics of products that consumers have been purchasing for decades will be quickly seized upon. To preserve the value of its investment, Kraft must be extremely cautious about alienating customers who are notoriously set in their ways. The furore greeting Coco-Cola’s attempt to change its recipe in the 1980s should serve as a stark warning to any company seeking to modify its well-loved products.

While concerns about perceived Britishness and recipe changes are essentially emotional in nature, there are obvious economic implications for the UK resulting from the deal. If Kraft is to find annual savings of $675 million, then cuts are going to have to be made somewhere. The fear is that, when it comes to the crunch, American jobs and facilities will be prioritised over British ones. Though Kraft made many positive noises about its commitment to British manufacturing while attempting to get the deal pushed through, considerable doubts remain over its long-term motives.

During the bidding process, Kraft made explicit promises about keeping open a UK factory at Somerdale. In a statement released in September 2009, the company said it would “be in a position to continue to operate the Somerdale facility, which is currently planned to be closed ... thereby preserving UK manufacturing jobs.” Cadbury had already earmarked the facility for closure, moving production to a cheaper centre in Poland, so this pledge was warmly welcomed by both Cadbury employees and supporters of British manufacturing.

Unfortunately, Kraft’s enthusiasm for the Somerdale plant was to be short lived. Just days after the takeover was confirmed, the US company declared that it would be shutting the factory after all, saying that plans for it’s closure were too advanced to be reversed. The factory would close and 400 British jobs would be lost. Called to answer for the u-turn at a House of Commons Business Select Committee meeting, Kraft did its best to appear contrite. “We are truly sorry about that and I am personally sorry.” said the company’s Executive Vice President Marc Firestone in response to accusations that Kraft had raised and then dashed hopes. “I personally give you my apology for creating that uncertainty.”

It would be fair to say that the response to this mea culpa was not particularly positive, also criticising CEO Rosenfeld for her failure to appear before the committee in person. Jennie Formby, head of food and drink for the Unite union said: “This does not augur well for Cadbury workers. Kraft have been extremely dishonest and highly manipulative.”

UK Business Secretary Lord Mandelson, who at least secured a face-to-face meeting with Rosenfeld, also expressed disappointment in the company’s actions. Speaking of his conversation with the Kraft CEO, Mandelson said: “She did reveal that over the next three months they would be looking at the management structures and personnel, and over the following four to six months, and only in that timeframe, would they be taking decisions about plants, production and the workforce that would be needed for that. So I think that ... rather than six months, we have decisions like this being taken and announced in six days, is contrary to the working relationship that the CEO said that she would have, both with the company that Kraft were taking over here in this country, Cadbury, but also with the British Government.”

In fact, the government has been so perturbed by Kraft’s behaviour, and the possible impacts future such deals might have on the British economy, that a ‘Cadbury Law’ has even been proposed. This would prevent the takeover of certain British companies deemed of particular importance to the nation unless two thirds of shareholders vote for it. Though the law is unlikely to be enacted any time soon considering the current political turmoil, that it was even floated and received strong support indicates the depth of feeling on the issue.

But from Kraft’s perspective at least, all of the effort, the wrangling and the disagreements, will be worth it if the Cadburys deal eventually pays off. Unfortunately, this is far from certain. Though mergers and acquisitions are entered into to create synergies and efficiencies, this outcome is no dead cert. A 2008 advisory from KPMG entitled All to play for: Striving for post deal success contains some major food for thought. According to the survey only 42 percent of competitive deals deliver while 45 percent of them result in an actual reduction in profitability.

Given the major cultural and organisational differences between the two entities, successfully bringing them together in way that can really deliver long-term shareholder value, will be no easy task. There are a huge number of potential sticking points, not least how Cadbury’s long history of social responsibility and its increasingly close relationship with the Fairtrade movement will gel with Kraft’s corporate business model. Though the American company has pledged to maintain a commitment that would see 20,000 tonnes of cocoa sourced from Fairtrade-certified suppliers in 2010, Kraft’s involvement with the competing Rainforest Alliance buying scheme does present a potential challenge in the long-term.

Cultural issues aside, simple economics mean leave some big question marks. The fact is that Kraft ended up paying in excess of 40 percent more than Cadbury’s share price over the last two years to make the deal happen. Even considering the growth potential in confectionery, this means that everything will have to go very right if the acquisition is to be judged a success. Kraft have to hope they can beat the odds and deliver real value, or the only people who could end up benefiting are the Cadbury shareholders who got such a good price for their stock. There are plenty of ways this seemingly sweet deal could leave a bitter aftertaste. Only time will tell if Kraft have bitten off more than they can chew.

Kraft: key figures

Revenue: €31.4 billion
Net income: €2 billion
Employees: 98,000

Cadbury: key figures

Revenue: €4.4 billion
Net income: €440 million
Employees: 45,000