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Cash is king for food ingredients firm that runs a lean operation

27 February 2009 1,560 views No Comment

THE market will reward you for cash. On the face of it, a simple enough statement, but also one which illustrates the disciplines needed to thrive in the new paradigm.

There are other refinements. Brands are now taking a back seat as consumers turn their heads to the new church of value, McDonald’s sees its sales go through the roof, while those previously devoted to building impregnable brands now tout the idea that even top quality branding can be brought downmarket.

For Kerry it could represent a new opportunity. Cash rich and relatively debt free, the company is now embarking on its second year under the leadership of Stan McCarthy, the chief executive plucked from its US operation to take over from outgoing chief Hugh Friel a couple of years ago.

McCarthy took the helm of Ireland‘s premier food company on the first day of 2008. It has been an eventful year. Starting with the launch of an exciting new strategy to wring additional value from its business and ending with a frustrating run-in with our Competition Authority.

But while McCarthy can believe that he will win his battle with the CA in the High Court and get his hands on another slice of the Irish processed meats business, the global downturn has put this little battle in the shade.

He looks made for the task. A long-serving Kerry executive, he was clearly groomed for the job from an early stage in his career. Low profile, understated and ostensibly as tough as nails, he comes across as the ultimate company man.

Delivering the 2008 results this week there were no great surprises, or at least that was the reaction among the investment community. There was, however, an extensive and expensive rationalisation of its core business, one which necessitated a near €50m charge to cover redundancies.

The extensive rationalisation of its manufacturing base — 12 sites in the US and six in Europe — was sold last year under the banner of a ‘go to market’ strategy, which was basically a focus on synergies and cost reduction.

McCarthy’s career has progressed almost entirely within Kerry Group. A native of Co Kerry himself, he joined the group’s graduate recruitment programme in 1976 and worked in finance in Ireland until his appointment as financial controller in the USA.

Acquisition

Following the group’s €130m acquisition of Beatreme Food Ingredients in 1988, he was appointed vice-president of materials management and purchasing. In 1991, he was appointed vice-president of sales and marketing and in 1996 president of Kerry Ingredients Americas.

Having spent most of his career building the group’s US asset base, it is hardly surprising that McCarthy knew where to wield the axe and this may explain the rapidity of the cuts.

The result is a leaner more efficient operator and one which McCarthy believes is poised to take advantage of the debt crisis which has enveloped many of his competitors.

Referring to the huge prices paid for companies in the ingredients sector in recent years, he says things are about to change. “I’m quite confident that valuations will be more realistic — some very expensive acquisitions were made over the last few years.”

Kerry, he says, is prepared to bide its time and he is convinced that some companies will be forced by their banks to renegotiate their massive debts, a development which should throw up considerable opportunity for cash rich firms like Kerry.

Its cash rich status has grown in the past year. “We have brought the debt ratio back to 2.3 times EBITDA and it will be the same in 2009 and 2010.

He has taken advantage of the fall in interest rates to refinance the entire debt package with its banks — Irish included.

“We have agreed the terms for the next two or three years — the fees were certainly higher but the rate was lower. Ultimately it is about getting the right mix of floating and fixed rate debt, he says, cautioning that right now, it is cash rich companies which are being rewarded.

Performance

That begs the question of Kerry’s own stock market performance — the shares fell away late last year after holding up reasonably well in the face of the global meltdown. At the end of the year, he explains, “one investor chose to liquidate their position, they had to sell something and this has knocked the price back a bit.”

“Kerry has performed well and will perform well. I don’t determine what the price will be — although they are very good value at the moment.”

Its recent performance, he says, has been strong, though he does concede that the downturn “certainly took the growth out of our foods business in the fourth quarter — that will stabilise and in the longer term our brands will be fine.”

The downturn has seen a shift in consumer habits, one which has posed challenges to Kerry and its customers.

“We are in a very good position from a trading perspective. We have seen some retail customers hit by falling consumption — the consumer is more discerning as to what they spend money on.”

“At one end of the spectrum, premium branded product sales have been hit but, at the same time, private label sales are growing dramatically — so its self-correcting to some degree.”

Clearly frustrated at the Competition Authority’s decision to block Kerry’s acquisition of Breoo Foods – the former food processing arm of Dairygold – he is now “optimistic” that the High Court will allow him complete the deal. If not potential efficiencies will be lost, something which no industry should be forced to accept in the current climate. That and the small matter of a €23.2m deposit which Kerry will lose if the deal does not proceed – it has already taken the precaution of writing the deposit off.

One major change which he is now embracing is the lean manufacturing model developed at Toyota and promoted to the global manufacturing industry by the Japanese car firm.

Lean manufacturing, he says, is about empowering people to make changes.

It started on this path last year, he says, because of a need to become more efficient in its foods business. It is about trying to embrace a whole new philosophy, but it will not be applied to the ingredients business until the current ‘go to market’ strategy has worked through.

“We are not ready to roll it out across the business just yet — across ingredients and flavours.”

Since 2003, the dollar has lost 54pc of its value against the euro, a fact which might be expected to reduce group earnings in dollars over that period. Yet, McCarthy says, with not a little pride: “We have still eked out basic earnings growth over that period.” A large part of this achievement can be laid at his own door.

But past glories are of little help in restoring value. What might help, he agrees, is a swing in the value of the dollar.

With its giant US business, Kerry could benefit more than just about any other Irish company from any rebound in the value of the dollar.

The company, he says, has never hedged its exposure to profit translation between its major currencies — euros, sterling and dollars. “We are not currency risk managers. In the long term these things balance out, they go in cycles,” he says.

The market will be hoping he is right.

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