Tuesday 24 January 2017

Takeover gives Coveney fresh appetite for success in US market

Markets reacted well to Greencore's acquisition of Peacock but it is not without its challenges

Samantha McCaughren and Gavin McLoughlin

Published 20/11/2016 | 02:30

Greencore’s Chief Executive Patrick Coveney at a Greencore Group PLC
Greencore’s Chief Executive Patrick Coveney at a Greencore Group PLC

Jimmy Dean breakfast sandwiches are a far cry from a typical Irish breakfast. Produced by Peacock Foods, they consist of a bread roll filled with a flat sausage, egg and cheese. Sometimes the roll is replaced with croissant or bagel but they are always frozen, and heated up by consumers who buy them in packs of four.

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When Greencore entered the US eight years ago, it never envisaged that frozen breakfast sandwiches would be key to them cracking the US market.

But ceo Patrick Coveney said after trying to push its British and Irish model in the US, it has learned to adapt to American retail and consumer habits. This led to the acquisition of Peacock Foods last week for $747.5m (€703m).

"We have slightly different views than when we entered the States eight-and-a-half years ago," he said. "We have worked for some time to figure out what is the right way of getting into the grocery channel - and the challenge we've had is that there is a not an equivalent level of private-label participation." When Greencore makes sandwiches for Marks & Spencer, they are sold as Marks & Spencer sandwiches. Not so in the US retail groups. "You do not find large grocery chains in the States running large, successful, well-invested own-brand programmes in these categories. You just don't find it," said Coveney.

This realisation followed some considerable efforts to apply aspects of Greencore's own model in the US. "We've actually tried over the years to get our own way into private-label programmes," said Coveney. "We have tried with several retailers to build out private-label programmes in convenience foods, and it hasn't worked. It hasn't worked because that is not how the grocery model works in the United States at the moment."

Coveney has been very keen to ramp up Greencore's presence in the US. One senior market source said this had been a concern, given the stark difference between the US convenience food market and the lunch trade in Ireland and the UK.

During the recession, Greencore's £1 sandwich helped it weather the storm of depressed consumer spending. The popularity of pre-packaged, thinly-filled sandwiches are in contrast to Americans' preference for made-to-order sandwiches, packed full of ingredients. However, this deal is seen as an acquisition which reflects Greencore's deeper understanding of the market.

Coveney told the Sunday Independent that Greencore had been looking for a sizeable acquisition in the US for 18 months. Peacock and Greencore were introduced to one another in early March, initially to learn from each other about each other capabilities. "They would be much larger scale than us and better equipped to do large production runs at massive scale, whereas our capabilities lie in innovation and very fresh food.

"As we got to understand and know the business better, it became much more of an acquisition opportunity for us," he said. The approach took place in June and a deal was formally agreed in July, before due diligence was initiated.

Investors like the deal, which was reflected in an immediate lift in the share price. However, the US is not without its challenges. Warren Ackerman of Societe Generale raised the possibility of some headwinds ahead for Peacock in a Greencore analyst call. He questioned whether or not Greencore was "comfortable" with frozen breakfast sandwiches accounting for 30pc of sales. "I know the category is growing at 6pc at the moment," he said. "But arguably it's intrinsically unhealthy and not something millennial consumers will want to buy going forward and certainly, the frozen category has been under significant pressure."

However, Coveney said he believed in the future of sandwiches as a consumer product.

Ackerman also questioned the description of Peacock's brand Jimmy Dean as a market leader in the frozen breakfast category, pointing out that Nestle's Hot Pockets have long claimed the title.

Coveney dismissed this, and said that Peacock uses the Nielsen measure which gives Jimmy Dean market leader position - but it is a reminder that some heavyweight rivals are already competing in the category.

Another question being raised by Greencore analysts is whether or not it can continue growth at the business. "They are paying a full price and are buying it from private equity who have pushed it fairly hard for the past few years," said one market source. "When they sell, it usually means they got their share out of it."

Indeed, revenues for Peacock has almost doubled between the year to September 2013 and the year to September 2016 from $517m (€486m) and $993m (€934m). Operating profit has also been pushed up in recent years, growing from $9.6m (€9.03m) in 2013 to $35.6m (€33.4m) in 2016.

The question is how much more upside Greencore can now eke out of it. Coveney is confident that he can do plenty with Peacock, pointing out that the company is stepping up its share of business "materially" with customer Kraft in 2017.

"They also have very strong growth in the salads market," Coveney said. "We think there is quite a lot of headroom for further growth in the business."

Fintan Ryan of Berenberg is among those who believe the Peacock's deal has the right ingredients for success. "It does look like 2017 will finally be the year when the US business starts to deliver consistent profitability," he said.

This follows two to three years of heavy capacity and infrastructure investments that have weighed on margins. "This acquisition is the icing on the cake in really scaling up and transforming the US business by filling in some channel gaps for its sandwich and salad business while offering future potential for growth building off the Peacock capacity footprint," he added.

David Holohan, chief investment officer at Merrion in Dublin, also welcomed the deal, which he said was not without risk. "It adds a further level of diversification to them both in terms of product mix and in terms of a new geography for them to get bigger in. It reduces the focus on the UK, which has obviously served as somewhat of a headwind for them recently post-Brexit," he said.

"The risk is simply the scale of the business. Obviously it's their largest deal, which introduces risks, but I don't think on a macro level there are any policies Trump would unveil that would have a significant impact.

"Obviously if the US was to reduce its tax rate that would benefit any companies with subsidiaries in the US."

There have also been some questions raised by the level right issue, which is significant. Shareholders will be asked to stump up £439m (€510m) in a rights offering.

Holohan believes Coveney's deal is a good once for investors."He's structured it well. The mixture of debt and equity makes sense, it allows leverage in the company to remain comfortable post the deal and investors will actually be happy with how it's structured.

"It's quite transformative for them. Greencore's market capitalisation is around £1.2bn (€1.13bn) and what they're acquiring is just under $750m (€706m), so it is very sizeable both in the context of Greencore. From an Irish corporate perspective, it would be one of the biggest US businesses bought.

"People have taken a 'wait and see' approach with Greencore to identify what their next big move would be, whether it would be further into the UK or further into a new geography.

"The decision to move to the US in that sense is something that I think will be taken very well."

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