3G Effect Makes Mondelez a Target as Activists Circle: Real M&A

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Aggressive cost cuts aren’t enough to save food companies from scrutiny after 3G Capital set the industry bar for just how deep they can go.

Activist investor Bill Ackman revealed late Wednesday that he has built a 7.5 percent stake in Mondelez International Inc. That holding could be used to push the maker of Oreo cookies and Ritz crackers to go beyond the $3 billion in cost cuts that Chief Executive Officer Irene Rosenfeld has already pledged amid pressure from Nelson Peltz’s Trian Fund Management.

That plan was impressive when Rosenfeld first announced cuts in 2013. But compared to what 3G Capital has been able to achieve with a more-efficient H.J. Heinz Co., Mondelez’s reductions now seem paltry, said Alexia Howard of Sanford C. Bernstein & Co. 3G also will trim expenses through Heinz’s purchase of Kraft Foods Group Inc., which was backed by Warren Buffett and closed in July.

“3G is turning the food industry upside-down,” Brian Yarbrough, an analyst at Edward Jones & Co., said by phone. “Activists are seeing the opportunity that, ‘Wow, if 3G can do this, why don’t we go in and put pressure on management?’”

Ackman’s $5.6 billion stake in Mondelez is a bet that the company can get its margins more in line with those of 3G’s targets -- one way or another. If Mondelez can’t make sufficient cuts on its own, then maybe 3G could, through a takeover of the company. Mondelez has long ranked at the top of the list of speculated targets for the investment firm co-founded by Brazilian billionaire Jorge Paulo Lemann.

Ackman is dabbling in the business of food takeovers as well. In June, he disclosed that his Pershing Square Capital Management owns almost 22 percent of Nomad Holdings Ltd., which was established to acquire food companies.

Not Obvious

Mondelez wasn’t the most obvious candidate for more activism. The shares had climbed 27 percent so far this year before Ackman disclosed his stake, for the third-best performance on the Standard & Poor’s 500 Consumer Staples Index.

Peltz has been involved with Mondelez since at least 2013, at one point pushing for a deal with PepsiCo Inc. before settling for a seat on the board and cost cuts. As part of Rosenfeld’s cost-cutting plan, she is implementing zero-based budgeting, an accounting approach favored by Peltz’s Trian and made famous by 3G in which companies start with a budget of zero and have to justify each expense.

In a post-3G world, that may not be enough.

Mondelez had a margin of about 12.5 percent on earnings before interest, taxes, depreciation and amortization at the end of June. It mainly operates in snack categories that should have higher margins than ketchup. Yet 3G set a goal of boosting Ebitda margins at Heinz to about 30 percent and has essentially already achieved that in just two years. That’s not far off from profitability at Google Inc. and Apple Inc., technology companies with much lower operating expenses.

Margin Laggard

Comparing Mondelez to the newly formed Kraft Heinz Co. is not exactly apples-to-apples, said Ken Shea, an analyst at Bloomberg Intelligence. Mondelez gets almost 80 percent of its revenue from overseas and as such, is more subject to currency pressures from the strong U.S. dollar. Still, that doesn t change the fact that its margins lag behind most large global packaged-food peers, according to data compiled by Bloomberg.

“There’s not a lot to complain about,” Shea said. But “for a company with such strong brands, why isn’t it performing the best? Is it good enough for the Yankees to come in third?”

In-House

Mondelez’s best bet for boosting margins substantially in a hurry is to make the changes on its own.

While 3G will continue to roll up the food industry with more deals, the Kraft takeover was massive at about $46 billion before net debt. It’s going to take time to integrate the acquisition with Heinz and to pay down borrowings. And Mondelez is no small undertaking with a market value of $75 billion.

“It’s later rather than sooner,” Yarbrough of Edward Jones said. “It’s too early for 3G or Buffett to do anything and there’s no one else really big enough to buy these guys.”

The only alternative may be PepsiCo, and Chief Executive Officer Indra Nooyi has shown no interest in Mondelez after multiple calls for a deal from Peltz.

The more cost cuts that Mondelez makes though, the less appealing it is for 3G because there’s less to do.

There are other packaged-food targets that could be easier to digest with more room for improvement, such as Kellogg Co., General Mills Inc. or salt-and-pepper maker McCormick & Co. All have market values under $40 billion. Or 3G could return to the beverage industry: The investors helped orchestrate InBev NV’s takeover of Anheuser-Busch in 2008. Diageo Plc is one that could hold appeal.

That’s not to say 3G couldn’t still pounce on Mondelez in a few years. That could be Ackman’s plan: try to be 3G on his own and if that doesn’t work, hand the reins over to the masters.

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