Top leadership from Unilever and McCormick are in Baltimore this week “blueprinting” a proposed merger of the businesses in a deal that is exponentially larger than any McCormick has overseen, and which has caused consternation among investors.
Share prices for both businesses fell sharply within a day of Unilever revealing in late March plans to merge the bulk of its food business, which includes iconic brands like Hellmann’s and Knorr, with McCormick, which makes spices, condiments and flavor bases for use across the food, beverage and nutritional markets.
Despite aggressive communication blitzes by both companies, executives have yet to convince stakeholders that the $40 billion deal is for the best, and Unilever’s share price remains far below the pre-rumored highs.
The negative market reaction likely reflects the food industry’s weak history with mega-mergers and current pressure on valuations more than concerns about the deal’s Reverse Morris Trust structure, which could let Unilever spin off the business more tax-efficiently than an outright sale. Under the arrangement, Unilever shareholders would keep a majority stake in the combined company, which the company says gives investors more flexibility in managing their risk exposure.
Both companies remain committed to the merger, with McCormick CEO Brendan Foley telling investors at Deutsche Bank’s annual dbAccess Global Consumer Conference this week that the deal will allow for “faster volume-driven growth across channels and geographies that are more diversified in the marketplace and best in class operating margins compared to the industry overall even before anticipated synergies are realized.”
“This combination is expected on a top line basis, at least by year three, to drive 3% to 5% top line growth, but also adjusted operating margins of 23% to 25%,” he said. “These are two businesses that have really strong cash flow,” which will allow for funding organic growth, the dividend that the company currently pays and debt funding.
“Achieving this portfolio, as well as this geographic presence, would have taken us more than a decade to do, and …this really has accelerated our ability to get to that vision” of a global food company, he added.
Merging the companies is ‘well underway’
Despite investor displeasure, McCormick and Unilever are moving forward with merging the businesses – a process that Foley acknowledges is “complex” and bigger than any McCormick has undertaken before, but which he says is “manageable.”
“There is a lot of great activity that I would say is well underway,” with more than 200 people from the companies working together to ensure a smooth transition, he said.
“We started well over a month ago. We have established a separation committee and also an integration management office and we have got 20 functional teams across both companies, really resourced-up, planning this integration” so there is a “smooth” transition “without disruption to the business overall,” he said.
The integration management office is led by Andrew Faust, former president of McCormick’s Americas business, who has extensive experience integrating previous acquisitions into the business.
“On the Unilever side, we have equal level of dedication across the organization to this, and there has been a lot of already constant dialogue between both teams,” Foley said.
“This week, all those teams are in Baltimore … continuing the blueprinting work that we have to do, and that backs up a meeting they had four weeks ago in London to do the very same thing,” he added.
Top priorities for the transition teams
Top on the list of tasks for the transition teams is defining the complexity of the deal, Foley said.
He noted about 80% of the Unilever Foods business operates standalone and should be separated “really effectively,” and about 20% comes from the other part of Unilever and will take “a little bit more work” to pull apart.
Also at the top of the to-do list is mapping the impact of the integration across the markets in which both companies operate.
“Right now, 75% of the sales of the combined company come from 10 markets. So, the top six are the United States, China, UK, France, Mexico, Canada, and those six we already operate in directly, both of us do, at scale. So that is going to get a lot of attention in terms of how we think about the integration,” Foley said.
The other four markets – Brazil, the Philippines, Indonesia and Germany – will require a different approach and be “more of a lift and shift” situation as McCormick does not have a direct presence in those regions.
The next phases will focus on growth and culture, said Foley, who added more information will be made available at the end of the third quarter.
Risk or opportunity?
With the merger comes a significantly larger geographic footprint, which some investors have hypothesized increase the company’s exposure to “volatility,” including among consumer trends, inflation and other concerns.
McCormick CFO Marcos Gabriel acknowledged these worries, but noted that both companies have strong track records managing these types risks and that the long-term plan for McCormick always was to expand its international reach – this deal just accelerates that trajectory.
He explained that the company’s presence in emerging markets will expand from about 25% to 40%, but he said the added risk is manageable because the combined company has local manufacturing, pricing and portfolio tools, and stronger in-market expertise.
Margin management is key
Gabriel also sought to soothe concerns about company margins as the companies invest in expansion and integration.
“We are not going to compromise growth at the expense of margin expansion. We are going to continue to invest in organic growth, brand marketing” at about the same level as recent years, he said.
He noted that Unilever has invested about 8% of net sales into organic growth and McCormick has invested 7% of its consumer segment sales.
The companies plan to gradually expand operating margins while continuing to invest in the brands to drive long-term growth. The margins will come from volume growth, revenue growth management and cost synergies, he added.
Synergies could reach $600 million
McCormick leaders also reassured investors that the deal will bring significant synergies within the first few years, which should insulate the earnings per share.
Gabriel said the company expects to realize $600 million in synergies with the first three years – with two-thirds of that coming in the first year or two. That would put it in the middle range of an operating margin of 2% to 25%, he added.
The company also expects to have $1.5 billion to $2 billion of cash to pay down debt in the first two years.
“It is a very solid P&L, a very solid cash flow generation that allows us to pay dividends,” invest in CapEX and pay down debt, he reiterated.
Ultimately, Foley reiterated that “McCormick is the right home for this Unilever foods portfolio. It is the vision of how we view ourselves operating in flavor. We are intentionally focused on it, our technology, our talent, our brands – that is all we are focused on … and we are crating global scale in attractive categories by combining these two businesses.”
