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Kraft withdraw their mega-takover offer

Penny Brooks

19th February 2017

Did Kraft find that they had bitten off more than they could chew? Last night they announced that they were withdrawing their offer to buy Unilever. Michael Mullen, a spokesman for the company, said: "Kraft Heinz's interest was made public at an extremely early stage. Our intention was to proceed on a friendly basis, but it was made clear Unilever did not wish to pursue a transaction. It is best to step away early so both companies can focus on their own independent plans to generate value."

One of the biggest bits of business news of last week was that acquisitive Kraft made an initial offer in a bid to buy Unilever. Unilever's board turned the offer down with a very dismissive statement, saying that the offer of £115bn fundamentally undervalued their company, that they see " merit, either financial or strategic", and that "Unilever does not see the basis for any further discussions". Now, Martin Deboo, a Jefferies International analyst, has said "It would appear that Kraft Heinz have underestimated both the intrinsic value of Unilever and the challenge of acquiring control of a Dutch company whose stakeholders would have opposed such a move vociferously." They have backed away once they realised that the bid could only have proceeded as a hostile takeover, and, perhaps after their hostile takeover of Cadbury's back in 2010, they fear the cost of overcoming the resistance.

What was the attraction for Kraft? Such a deal would have been the second biggest takeover ever, only beaten by Vodafone's purchase of Germany's Mannesmann AG in 1999, but that is not a good reason on it's own. It would have instantly propelled Kraft into huge scale as a conglomerate in the consumer goods market, buying at a stroke a portfolio of key brands that might otherwise take decades to build one-by-one. Steve Clayton, fund manager at Hargreaves Lansdown, told the BBC on Friday that such a deal would create enormous cost savings. "Putting portfolios of brands together can create huge synergies across marketing, manufacturing and distribution, even before you think about cutting the combined HQ back to size," he said.

But as Deloitte's research into cost synergies found a few years ago, such cost savings are expensive to achieve and difficult to implement - see Jim's analysis of that research here.

Undoubtedly, a Kraft/Unilever deal would create a massive fmcg company that could dominate the household goods market, bringing significant weight to counter the power of supermarket buyers and to raise their prices. The analysis below gives just a flavour of the range of iconic brands that could be brought together:

BBC listing of just some of the brands involved

But this size and power brings it's own difficulties for the idea of the takeover, as the combined business would surely be so big that the world's competition authorities, such as the Competition and Markets Authority in the UK, would be bound to raise concerns. Neil Wilson, an analyst at London broker ETX Capital, said that "The combined entity would have a huge brand footprint and be able to flex bargain muscles even more with supermarkets. It could come up against a number of hurdles as it would create a giant in the sector. EU regulators in particular could be against it."

Other reasons for Kraft's timing might have included the weakness of the pound since Brexit last June, which means that an American company needs fewer dollars to complete the purchase of a British one - and when you are looking at a deal that costs over a billion pounds, that is a significant matter. Added to that, debt remains cheap as interest rates remain low, so the cost of financing could be relatively affordable.

Here's an opportunity to practise some quantitative skills: Unilever's share price rose on news of the deal on Friday, from 3347.5p at the start of the day to 3797.0p at the close. Can you calculate the percentage change, and express that as an index taking the opening price as the base point of 100? Find the answers on the share price graph in the middle of this article.

The prospect of Kraft taking over yet more iconic brands was reminiscent of their purchase of Cadbury's back in 2010 (see * below for a comparison of the origins of the two businesses). In that case, just a week after promising to keep Cadbury's Somerdale factory near Bristol open, Kraft backtracked and said it would close the plant. It said that it only realised the need to do so as more information became available to Kraft once the takeover was completed.

After the Cadbury's deal, the Panel of Takeovers and Mergers, which regulates this area reviewed the laws and in September 2011 changes were made to the Takeover Code. This is reported in this very useful article which analyses the changes. Broadly it strengthened the hand of target companies, and demanded more information from bidders about their intentions after the purchase, particularly on areas like job cuts. Unilever has over 7,500 employees in the UK at over a dozen sites across the UK, including three major plants in Liverpool, Norwich and Gloucester, and reflecting on the inevitable concerns about them, a UK government spokesman was quoted on Friday saying: "This is clearly an important potential deal for a major company in the UK and its workforce. We continue to monitor the situation closely." However, the government has no legal power to block a deal.

* Cadbury's was started by John Cadbury, a Quaker, in 1824 when he opened a shop in Birmingham in which he sold cocoa and drinking chocolate, which he prepared himself using a pestle and mortar. His business objectives were driver by his beliefs, as tea, coffee, cocoa and drinking chocolate were seen as healthy, delicious alternatives to alcohol, which Quakers deemed bad for society. In 1878, his sons Richard and George established a new factory just outside Birmingham and built Bourneville, a village where their workers lived in far better conditions than they'd experienced in the crowded slums of the city. George wanted to build a place full of green spaces, where industrial workers could thrive away from city pollution. 'No man ought to be condemned to live in a place where a rose cannot grow.’ George Cadbury.

Lever Brothers is key to the origins of Unilever. 1886 William Hesketh Lever, a member of the Congressionalist church, established a soap manufacturing company, Lever Brothers, with his brother, making Sunlight soap. In 1887, he built Port Sunlight and it's neighbouring village to offer decent living conditions to his workers in the belief that good housing would ensure a healthy and happy workforce.

Penny Brooks

Formerly Head of Business and Economics and now Economics teacher, Business and Economics blogger and presenter for Tutor2u, and private tutor

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