Nestle Using Franc Makes Mead Johnson Takeover Target: Real M&A

Nestle Using Franc Makes Mead Johnson Takeover Target
An employee oversees a conveyor belt system which fills tins with baby food supplements manufactured at Nestle's new production unit for probiotic infant formulas in Konolfingen. Photographer: Gianluca Colla/Bloomberg

Nestle SA is turning to takeovers after more than $10 billion in stock repurchases failed to stem a decline in shareholder value. That may put Mead Johnson Nutrition Co. in its sights.

Nestle, which spent 10 billion Swiss francs ($11.4 billion) on buybacks in the past 14 months, will stop buying shares and may instead pursue acquisitions, Chief Financial Officer James Singh said last month after the currency reached a record. The world’s largest food company lost 5.4 percent during the buyback period as its rivals gained. While Nestle’s revenue is projected to drop this year, the franc’s appreciation -- the biggest of any major currency in the past year -- is now making takeovers cheaper than ever, James Investment Research Inc. said.

Buying Mead Johnson, the world’s largest standalone baby formula maker, would help Nestle revive growth and rebuild its business in China, the only major market where the company isn’t one of the biggest sellers of infant nutrition after authorities there found in 2005 that its products contained too much iodine. With Pfizer Inc. delaying a sale of its own baby formula unit, according to people with direct knowledge of the plan, a deal for Mead Johnson instead would give Nestle more than half the U.S. baby food market, according to Euromonitor International.

“This is an asset that works best in Nestle, more than anywhere else,” Tom Pirko, president of Bevmark LLC, a Buellton, California-based consulting firm, said in a telephone interview. The firm counts Nestle as a client, according to its website. “Everything we’ve looked at so far says this is a very good fit, and it is a deal that should be put together.”

Shareholder Returns

Nina Caren Backes, a spokeswoman at Vevey, Switzerland-based Nestle, declined to comment on whether it is considering a takeover of Mead Johnson. Chris Perille, a spokesman for Mead Johnson in Glenview, Illinois, declined to comment on whether it was approached by Nestle or would consider a sale.

“We never comment on marketplace speculation,” Perille said in a telephone interview.

Today, Mead Johnson climbed 3.8 percent to a record $75.25, while shares of Nestle rose 0.1 percent.

Nestle, which purchased more than 188 million of its own shares in its latest plan, said Aug. 10 that it decided against buying more of its common equity. The program, completed last week, didn’t keep Nestle from declining over the 14-month span, according to data compiled by Bloomberg.

‘Create Value’

Companies that sell consumer staples in the MSCI World Index of developed markets advanced an average of 16 percent.

In the previous three years, Nestle had bought back 25 billion francs worth of stock, coinciding with a 6 percent gain.

“The share buyback hasn’t been as successful as they believed it would be,” said Joerg de Vries-Hippen, Frankfurt-based chief investment officer for European equities at Allianz Global Investors, which oversees more than $100 billion, including Nestle shares. “In the end, it didn’t create value.”

The announcement to end Nestle’s buyback program came one day after the franc climbed to an all-time high against the dollar on Aug 9. While the Swiss currency retreated after the nation’s central bank last week said it would cap the franc’s rate for the first time since 1978, it has still appreciated 14 percent in the past year, data compiled by Bloomberg show.

“Given the fact that there are potential alternative uses for our cash, such as investments in capabilities and bolt-ons, that provide greater long term strategic value for our shareholders, we believe that today is not the right time to be launching a new share buyback,” Nestle’s Singh said Aug. 10.

Shunning Buybacks

Nestle is shunning buybacks to pursue acquisitions as it tries to bolster growth. After reporting 87.9 billion francs in revenue last year, analysts estimate that Nestle’s sales will fall more than 5 percent this year.

That makes a takeover offer for Mead Johnson, which is forecast to increase earnings twice as much as Nestle in 2012, a “high possibility” this year, according to David Hayes, a London-based analyst at Nomura Holdings Inc.

“They’ve got a strong currency to take advantage of,” Barry James, president of James Investment Research in Xenia, Ohio, said in a telephone interview. His firm oversees $2.5 billion. “It makes perfect sense that they would be seeking that diversification abroad.”

While Nestle is the biggest seller of infant nutrition in the world, it has lost market share in China after being forced to withdraw two varieties of its Neslac milk powder in 2005 because they had iodine levels that exceeded Chinese norms.

Fake Milk Powder

A year earlier, 13 babies died of malnutrition after being fed fake milk powder sold with false labels and no nutritional value. Three years ago, melamine-tainted milk powder sickened thousands of children in China and killed at least six infants. The incidents didn’t involve Nestle products.

“Consumers want products that come from pharmaceutical companies as it gives them greater assurance,” said Ildiko Szalai, an analyst at Euromonitor in London. That’s why “Mead Johnson became number one in China last year” as consumers moved away from Chinese brands, he said.

Acquiring Mead Johnson, the $14.8 billion company split off from Bristol-Myers Squibb Co. in 2009, would help Nestle leapfrog Danone and become the biggest seller of infant-nutrition products in China, the largest market for baby food.

Mead Johnson had 11.7 percent of China’s infant formula market last year, while Paris-based Danone’s share equaled 9.8 percent, data compiled by Euromonitor showed.

‘Brand Matters’

Nestle didn’t rank in the top five in China, where sales of baby food through 2015 are forecast to increase almost three times as fast as the industry average, the data showed.

“The main piece would be to get access to the Chinese market,” Mark Demos, a manager at Fifth Third Asset Management in Minneapolis, which oversees about $18 billion and owns Mead Johnson shares, said in a telephone interview. “Infant formula is one of those things where the brand matters. They simply cannot replicate it by building a franchise like Mead Johnson in China. Mead Johnson is established.”

In the U.S., Mead Johnson would help Nestle more than double its share of baby food sales to about 58 percent. A deal would also enable Nestle to market its Gerber baby food to consumers already using Mead Johnson’s Enfamil formula as their babies switch from milk to eating purees and solid foods, according to Nomura’s Hayes.

“Nestle is very able to make the U.S. business at Mead work” because of the Gerber business, Hayes wrote in a report dated Sept. 12. “Nestle would be able to target more mothers in the U.S. with umbrella branded Gerber-Enfamil Formula.”

Nomura estimates that Nestle would have to pay at least a 25 percent premium to buy Mead Johnson, which would equal $18.5 billion. That would make the baby formula maker Nestle’s biggest acquisition on record, as well as one of the most expensive based on earnings before interest, taxes, depreciation and amortization, data compiled by Bloomberg show.

“Mead Johnson is not going to come cheaply,” Fifth Third’s Demos said. Still, “if you’re a consumer products food company worldwide and you want access to growth, Mead Johnson is a company that would achieve that for you.”

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