Kraft spin-off moves closer to becoming reality

By Anthony Fletcher

- Last updated on GMT

Related tags Kraft Kraft foods

Food giant Kraft, which saw earnings drop 13.5 percent in third
quarter earnings yesterday, moved a step closer to being spun off
from parent Altria after a $280 billion government lawsuit against
the tobacco industry fell through.

Altria, the largest US cigarette maker and controlling shareholder of under performing Kraft, may now try to unlock shareholder value by turning its Kraft Foods and Philip Morris units into separate companies now that the specter of bankruptcy has been lifted.

The case, which went to trial between September 2004 and June 2005 sought to indict companies that it claimed had for years defrauded the public by promoting smoking despite knowing of the risks.

It would have been virtually impossible for Altria, with revenues of $72 billion a year, to separate its business interests with this lawsuit looming. However, the situation has to all intents and purposes now been resolved and the opportunity appears open.

Any move to separate the Kraft unit from Philip Morris would represent further streamlining of a business in the midst of significant change. It was announced this week for example that up to 600 staff would lose their jobs as part of the firm's global restructuring program.

This initiative, launched in January 2004, outlined up to 6,000 positions at all levels of the organization likely to be eliminated over a three-year period.

Such restructuring is clearly needed. The maker of Oreo cookies and Grey Poupon mustard saw net earnings for the July to September quarter set at $674 million, or 40 cents a share, versus $779 million, or 46 cents a share, from the same quarter a year earlier.

Kraft's strategy reflects growing concern within the food industry that branded portfolios must become more focused if companies are to successfully offset cost pressures and see margin improvements.

Such views have also been expressed by market analysts - a report by Goldman Sachs (GS) for example advised investors to take a cautious view of the packaged food industry, citing uninspiring growth outlook as a key reason for its wariness.

The investment bank said companies with focused portfolios - such as Hershey and Kellogg - perform best as they are better at product innovation.

In contrast to the "bigger and broader is better"​ mentality of a few years ago, many food companies are now shedding non-strategic assets and focusing on their core businesses. GS believes that this improvement in focus makes companies more competitive.

For example, one of the key tenets of Kraft's Sustainable Growth Plan is transforming its portfolio, hence the recently announced divestitures of its $500 million sugar confectionery business, plus its yogurt and UK desserts businesses.

The company also announced this week that Kraft North America Commercial (KNAC) will retain its existing five consumer sectors (Snacks, Beverages, Cheese & Dairy, Convenient Meals and Grocery), with no change in the leadership of any sector.

Divisions within the sectors will be eliminated, and, effective immediately, leaders of specific product categories - such as pizza, cream cheese and cookies - will report directly to the KNAC sector heads.

Effective in January 2006, the Kraft Canada organization will be realigned to better integrate it into the KNAC sector structure. Canadian business leaders will report directly into the KNAC sectors to better leverage the company's scale and marketing programs in North America and reduce duplication of resources, while maintaining local consumer insights.

The company's Global Supply Chain function in North America has been redesigned to align with the changes being made in KNAC, and global corporate functions will also be streamlined to support these new structures.

Even if Kraft is spun off from Philip Morris and management succeeds in dramatically streamlining its operations in order to focus on key brands and markets, analysts remain cautious about the industry as a whole. GS forecasted that sales growth for large cap food companies will decelerate in 2005 through 2008. The bank also said it only expected a modest improvement in 2005 off a depressed 2004 base.

Kraft Foods markets many of the world's leading food brands, including Kraft cheese, Maxwell House and Jacobs coffees, Nabisco cookies and crackers, Philadelphia cream cheese, Oscar Mayer meats, Post cereals and Milka chocolates, in more than 155 countries.

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