Costly bloat

Time for a Diet at Suntory

Sitting right behind Pepsi and Coke looks like a good place. Maybe not for long.
Behrouz Mehri/AFP/via Getty Images

Danone SA isn't the only food business that needs to tighten its belt.

The French dairy company is selling $1.8 billion-worth of its stake in Yakult Honsha Co. under pressure from activist fund Corvex Management, driving shares in the Japanese maker of yogurt drinks to the biggest decline in more than a year Thursday. Yakult's rival Suntory Beverage & Food Ltd., which just reported a 6.2 percent increase in pretax profit for 2017, could do with the attention of a Corvex of its own.

In one way, life has been pretty easy for Suntory, which trails PepsiCo Inc. and Coca-Cola Co. 1 as the third-biggest soft-drinks company worldwide by sales. (The closely held whiskey maker Suntory Holdings Ltd. has a 59 percent stake in the listed company.)

Bubbling Up

While other soft-drinks companies have seen declining sales, Suntory has been growing

Source: Bloomberg

Note: Shows latest 12-month sales relative to figure three years earlier.

Unlike its larger peers, and even Singaporean rival Fraser & Neave Ltd., sales have been growing at a healthy pace for years -- up almost 15 percent in the most recent 12 months compared with three years earlier. Over the same period, there were declines of 19 percent at Coke, 4.7 percent at Pepsi and 7.6 percent at F&N. 

That's to be expected. As Gadfly has argued previously, this should be Suntory's moment. Its portfolio of iced teas and coffees such as Suntory Oolong and Boss is more suited to the current era of declining soda volumes than the fizzy ranges at many of its rivals, even if tooth-loosening products like its Orangina, Ribena and Lucozade seem like blasts from the past.

The problem is that those topline factors have allowed the company as a whole to become bloated. While Coke, Pepsi, Dr. Pepper Snapple Inc. and F&N dedicate less than 40 percent of their revenues to selling, general and administrative expenses, the figure at Suntory is nearing half of net sales.

Cost Cutter

Selling, general and administrative costs at Suntory are much higher as a percentage of sales than elsewhere

Source: Bloomberg, Gadfly calculations

Labor costs seem the principal culprit. They almost doubled over the four years through 2016, even as net sales rose 42 percent and promotional and commission spending crept up 25 percent. Had labor expenses alone been held steady through the period, operating income in 2016 would have been about 65 percent higher.

One argument against achieving that sort of cost reduction is that the strengthening of the yen since it bottomed out three years ago has made life uniquely challenging for companies that have cost bases mainly in Japan and big chunks of revenue overseas.

Yakult's experience, though, suggests that Suntory's problems are unique to it: Personnel expenses have risen just 22 percent over the past four years, not much faster than the 19 percent increase in sales. Little wonder that its valuation has soared to levels where Danone saw selling part of its stake as an obvious option in the tidying-up exercise detailed by Gadfly's Andrea Felsted.

Buzz Kill

Suntory's global market share in ready-to-drink coffee is under threat from Nestle and Starbucks

Source: Bloomberg Intelligence, Euromonitor International

Suntory's own valuation has slumped in recent years, though it maintains a premium over rivals. That doesn't seem justified: In ready-to-drink coffee, long the powerhouse of the business, its market share looks set to fall behind Nestle SA and Starbucks Corp. A rising top line has long served to cover up the cost bloat, but it appears to be leveling off. Analysts forecast a fall in revenue in the 2018 fiscal year.

Going Flat

Suntory's revenue is set to fall in the 2018 fiscal year

Source: Bloomberg

Suntory is looking out of shape. A fitness program is long overdue.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
  1. We've not included independent Coca-Cola bottlers in this ranking.

To contact the author of this story:
David Fickling in Sydney at dfickling@bloomberg.net

To contact the editor responsible for this story:
Paul Sillitoe at psillitoe@bloomberg.net

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