Sunday 17 December 2017

Danone sets its sights on emerging markets

Dr John Lynch

The old dairy sector joke says milk is spoiled when it starts to look like yoghurt; yoghurt is spoiled when it starts to look like cottage cheese; cottage cheese is spoiled when it starts to look like regular cheese; and regular cheese is nothing but spoilt milk anyway. Real genius lies in the ability to stop the spoiling process at any of the stages and transform the resulting products into utterly essential items for the fridge. Then it is not a joke but a business with no horizons.

Kerry Group has proved the case out of Ireland that everything the cow can give can be sold, with the possible exception of the moo, but the international company I want to focus on this morning is Danone, which not alone claims world leadership in fresh dairy products and bottled waters but also has been labelled a 'national treasure' by the French government in an effort to scare off unwelcome bidders.

Danone is also a case study in how not to get carried away by the seemingly limitless potential of the Chinese market.

Founded in Barcelona in 1919, the company moved to France in the 1930s and then to the US during World War Two, only to relocate to Paris after the war and remain there ever since. Through an array of acquisitions, mergers and disposals, today its dairy products, water and baby foods businesses boast revenues of €20bn, an operating income of €3bn and 100,000 employees.

Over the years, it has been a brewer (it owned Kronenbourg), a glass-maker, and had a major slice of the European biscuit business including ownership for a while of our own beloved Jacobs.

Now its big brands include Actimel, Activia, Danacol, Cow and Gate and, of course, the Danone range, while it owns Evian, Volvic and Badoit mineral water brands.

Recent results have pleased Danone management as sales exceeded €20bn for the first time. The improvement was due mainly to developments outside Europe. The main increase came from Asia, with sales increasing to €3.5bn.

The familiar austerity-induced recession in Europe means a European market decline in sales but still accounts for 55pc of group revenues. The group is handling its European dilemma with a €200m cost-saving plan over the next two years. Dairy products account for 56pc of group sales, while baby foods account for one-fifth of group sales.

The company strategy for growth is to enter fast-growing emerging markets by way of joint ventures. But this strategy has not been blessed with great success in China, which many thought was ripe for a Danone mop-up. A 1996 joint venture with soft drinks producer Wahaha ended in a bitter dispute. Danone sold its 51pc stake for €450m and exited.

Its second joint venture was equally unsuccessful, with a company called Bright Dairy – when the local Chinese Authority announced it was assuming the management of the company, Danone beat a hasty retreat.

Recently, the company announced a new €325m joint venture with the Chinese company Mengniu for the production of yoghurts. A few eyebrows were raised at this one because the Chinese company had been the subject of controversy over contaminated baby food.

Investors are hoping third time lucky, otherwise the Danone strategy could become a case study for MBA students, called 'perils of Chinese joint ventures'.

But the investment community feels Danone is adopting a lower risk strategy than before. The investment is small, the downside limited. For a region that Danone regards as a priority, China still accounts for only 6pc of group sales.

Danone share price is €56. The view among some analysts is a rise in share price is achievable. They cite organic growth reaching 7pc by 2015 and an increase in net income of 25pc. They are of the opinion that the projections are underpinned by the anticipated growth in water, baby food and emerging markets.

The group has a market cap of €36bn, and while not a tiddler, it is still smaller than some companies in its sector like Unilever or Nestle. Its narrow focus has for some time made it attractive as a takeover target for bigger international players. Both Nestle and Kraft have sniffed around. It won't be easy.

Some eight or so years ago, rumours circulated that Pepsi might be interested in having a pop at Danone but the French passed a law protecting 'strategic industries'. The intention was so obvious that the act became known as 'Danone Law'. We should remember this when next we are being lectured about our tax structure.

Dr John Lynch is a former chairman of CIE. Nothing published in this section should be taken as a recommendation, either implicit or explicit, to buy or sell any of the shares.

Irish Independent

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