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One Tough Job: Get Sara Lee Cooking

By Robert Berner Can Brenda Barnes sharpen Sara Lee's focus? That will certainly be a big part of her mandate and what Wall Street expects -- when she becomes the No. 2 executive of the Chicago-based food, apparel, and consumer-products giant on July 1. But analysts say the task won't be easy.

That's because Sara Lee (SLE) continues to play catch up in a retail world dominated by the likes of powerful giants such as Wal-Mart Stores (WMT). Sara Lee operates a hodge-podge of brands ranging from Ball Park Franks and Jimmy Dean Sausages to Hanes Underwear, Wonderbra, and Kiwi Shoe Polish, and it has a corporate structure that remains more decentralized than those of its rivals.

Chief Executive C. Steven McMillan has been trying to bring Sara Lee up to speed, yet analysts continue to question whether the company would be better off broken up into more focused businesses rather than trying to compete as a conglomerate. A breakup "doesn't seem that much of a risk, given the performance of the collective portfolio over the last five years," says Deutsche Bank analyst Eric Katzman.

LAGGING STOCK. For its last fiscal year, ended in June, sales from continuing operations were $18.3 billion, up just 11% from the fiscal year ended July, 2000, when McMillan started. Income from continuing operations over that three-year period rose even less, 5.4% to $1.2 billion.

McMillan helped maintain the bottom line with the sales of business units, restructurings, lowering taxes, and aggressive cost cutting.

He underscored his continued tight watch on costs June 10, with the announcement that Sara Lee would shut five apparel plants in Puerto Rico, Honduras, and Mexico, and trim production at a North Carolina facility, cutting a total of 3,825 jobs. Still, Sara Lee's stock during his reign has risen just 5.3%, to around $23 a share as of June 30, compared to a 38% average increase among food-company stocks during that time, according to Deutsche Bank.

Sara Lee is banking on Barnes, 50, to bring her operational and branding skills to her new post. Her résumé is filled with successes at well-known consumer-products companies, though she created a stir over work-and-family issues six years ago, when she resigned from the top post at PepsiCo's (PEP) PepsiCola North American division to spend more time with her children.

STARTING FROM BEHIND. At the time, she was considered potential CEO material at any number of consumer-product giants, including PepsiCo. At Sara Lee, she'll fill the posts of president and chief operating officer, two positions left vacant when McMillan rose to CEO. Barnes was unavailable for comment, and Sara Lee says she won't be granting interviews until this fall.

Barnes is ready to dive into a relatively new business strategy at Sara Lee. Frustrated with slow growth, McMillan in February launched a market-segmentation strategy, aimed at channeling resources behind the brands with the most growth potential. He broke Sara Lee's roughly 200 brands into four segments and plans to invest more into the two most promising segments. Meanwhile, it won't increase spending for the other two, instead managing those brands for cash to support the two growth categories. Right now, 50% of the revenues come from the two fastest-growing segments, a percentage Sara Lee wants to increase to two-thirds of sales by 2007.

Barnes will be starting from behind when she takes over Sara Lee's day-to-day operations and segmentation strategy. It also won't help that some analysts consider McMillan's strategic goals too optimistic. Deutsche Bank's Katzman doubts that Sara Lee's predicted earnings for targeted, high-growth brands, like meats, can grow at a 17% compounded average annual growth rate. Similarly, he questions whether the brands Sara Lee slows investment behind will deteriorate more quickly than expected.

FOCUS PROBLEMS. Sara Lee has few big brands - a detriment in a consolidating retail world. It has only one billion-dollar name, its Hanes lines of underwear and socks. In food and beverages, which account for over half Sara Lee's sales, it has none. Kraft Foods (KFT), by comparison, has seven billion-dollar food brands, ranging from its Kraft packaged foods and Nabisco snacks to Oscar Mayer meats.

Analysts say larger brands give manufactures more clout with retailers and better cost advantages in production and marketing. "The dominant player has more pricing power," says Robert Millen, a portfolio manager at Jensen Investment Management in Portland, Ore. "Sara Lee's brands are tertiary."

That only half of Sara Lee's revenues are made up of brands with higher-growth opportunities reflects the company's lack of focus in the past, says Morgan Stanley analyst David Adelman. He blames it on Sara Lee's decentralized structure. McMillan has worked to change this, by centralizing 10 separate meat companies into one, for example. But Adelman says Sara Lee has further to go. "They still have remnants of a decentralized company, even with retail consolidation," he says. "They have a very diffuse brand portfolio."

BREAK IT UP? One risk is that investors are growing weary of Sara Lee's promises to get on track. Most of the gain in Sara Lee's stock price during McMillan's reign came in the last year and resulted from a 21% increase in the dividend. McMillan has also driven a good portion of earnings by nonoperational means, such as reducing the corporate tax rate (at 17%, nearly half the standard rate) and increasing share buybacks, which boost earnings per share. And having a high debt level - 70% of capital, vs. an food-industry average of 50% -- won't help earnings either, as interest rates rise.

Nor are all observers convinced it's worth waiting to see if a brand master such as Barnes can make Sara Lee's segmentation strategy pay off. McMillan has said that he has studied break-up values and sees more value as a whole. But Deutsche Bank's Katzman, for one,contends that "it's our view that value could be created more quickly by splitting the company into three pieces and letting the chips fall where they may."

With that attitude among analysts, Barnes has her work cut out for her, despite a stellar track record. Berner is a correspondent in BusinessWeek's Chicago bureau

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