General Mills rebuilding confidence

by Josh Sosland
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Moderating a conference sponsored by Goldman Sachs, Steven T. Kron of the giant investment firm offered high praise for the executive leadership of General Mills, Inc.

Noting the stock market performance of food industry companies during the past 12 months has been impressive, climbing 15% on average, he said General Mills has done better still. The Minneapolis-based food company’s shares have risen 20%, "mainly reflective of management’s execution on a focused set of operating goals, which has resulted in broad-based momentum and margin gains."

In the most recent quarter, that success prompted General Mills to raise its full year earnings guidance for fiscal 2007 to $3.14 to $3.16 per share, up from $3.09 to $3.13. Over the first three quarters, the company’s net income per share was up 10% from the year before. Sales were up 6%.

The advance in General Mills shares (trading recently at $61, up from $52 at the end of May 2006) and Mr. Kron’s comments could be viewed as vindication for Stephen Sanger, General Mills chairman and chief executive officer, following what may have been the most difficult period for the company in the last 50 years.

Beginning his own comments at the Goldman Sachs Consumer Products Symposium on May 8, Mr. Sanger noted shareholder returns at General Mills from 1996 to 2006 were significantly below returns of earlier periods dating back to the 1950s.

"We generated a double-digit return to shareholders in all those time periods, except the latest 10-year period, where we outperformed the market, and we outperformed the market in every period," Mr. Sanger said.

While the overall market may have been a drag to General Mills performance during the 10 years ended in 2006, external factors certainly were only part of the equation. General Mills’ much ballyhooed acquisition of The Pillsbury Co. in 2001 failed to translate into the earnings acceleration predicted at the time of the transaction. More recently, the company may not have generated the success it sought with a major low-carbohydrate new product initiative or even the reformulation of all its ready-to-eat cereals to contain whole grains.

These struggles undercut the company’s share price performance earlier in the decade. Long regarded as the exemplar of a solidly growing food company, the repeated stumbles prompted one analyst to suggest in 2005, "When it comes to numbers, General Mills is beginning to look a lot like the average food company."

In the five-year period ended May 28, 2006, earnings per share at General Mills climbed 30%, pointing to an average far below the company’s historical norm.

Even with its recent rally, General Mills shares have tended to trade with a lower price-to-earnings ratio than several of its peers. At a p.e. ratio of 19, General Mills compared with The Kellogg Co. at 21, Campbell Soup Co. at 22, H.J. Heinz Co. at 20 and Kraft Foods Inc. at 17.

Analysts have lauded progress at General Mills but remain somewhat wary.

"The company trades at a 5% discount to the group average, but it could probably merit an in-line multiple if these trends are for real," Robert Moskow, Credit Suisse, said earlier this year. "At this time, we believe that the stock price adequately reflects risk-reward."

More recently, General Mills has been more measured in its new product efforts, but Mr. Sanger said the company still seeks to keep pipelines filled to the point that the impact on the top line is evident both over a one-year period and longer.

"The expectation we have is to get on average in the neighborhood of 5% sales in any given year from products that are new in that year, and over a longer term period, sustain those products such that in a five-year period, 20% to 25% of our sales are from products that are new in that five-year period," Mr. Sanger said.

General Mills participates in categories in which its arch competitors have made splashy new product introductions. Some of these initiatives have attracted enthusiastic responses on Wall Street, raising questions of whether General Mills would keep up.

After Kellogg began regaining lost share in the ready-to-eat cereal market with its revitalized product base spearheaded initially by Special K with Berries and a new "volume to value" philosophy shift, General Mills has seen widely-publicized competitive initiatives in two of its other principal food categories — yogurt and soup.

With its Activia yogurt, Groupe Danone has generated considerable interest in the market for probiotics. Notwithstanding the interest in Activia and probiotics, Mr. Sanger said General Mills would maintain a focus not on the "hottest" new trends but on new product opportunities that offer the company the greatest opportunity for growth. In fact, his comments appeared to suggest recent interest in probiotics was overblown.

"We’ve been watching the evolution of probiotic cultures in yogurt," Mr. Sanger said at the Goldman Sachs conference in response to a question. "It’s been going on for at least 10 years. It started in Europe, and the U.S. consumer never really (responded). We’ve had access to probiotic cultures for a long, long time and we never saw it as a major opportunity in the U.S. to this point because the U.S. yogurt market was responding to different things.

"With Dannon’s introduction of Activia a year-and-a-half ago, I think the U.S. consumer is becoming more aware of what that probiotic benefit is, and so we will introduce in June or July Yo-Plus, which is a combination of prebiotic and probiotic organisms in yogurt. As such, it has significant benefits in terms of digestive health. We think it’ll do well. It is a segment of the U.S. market, the digestive health segment, which is relatively small.

"The major U.S. market segment, in fact the biggest, fastest growing one, is weight management. And Yoplait Light is the leader in that segment. But I think there is a small and growing segment of interest in digestive health and the probiotic yogurts are there to address that. We’ll participate in that market."

Asked further about the absence of Yoplait from the probiotic market (the company has had a presence in the prebiotic market for some time with its Yoplait Nouriche product line), Mr. Sanger emphasized the importance of establishing the right priorities for new product introductions.

"It’s not a question of whether we should develop a probiotic yogurt," he said. "It was whether that ranked ahead of the other new ideas that we had stacked up for launch. We have a certain amount of manufacturing and a certain amount of new products that can be introduced at any given time. We continue to find that the consumer feedback we got was that the other new ideas we introduced before Yo-Plus had higher potential.

"Now the potential of the probiotics will grow, I think, as the segment becomes more familiar to the American population. We think the time is right now."

More importantly, Mr. Sanger expressed the view that while the yogurt category overall has enjoyed steady and solid growth for a long time, that considerable potential exists for further gains. Judging consumption on a per capita basis, U.S. demand is far beneath many countries.

"I’m not comparing it to France, because that’s perhaps the most developed (yogurt) market in the world," he said. "But if you just compare it to Canada, U.S. consumption is still well below Canadian. So, there’s clearly more growth potential in the United States. I think there’s still high single-digit growth potential long term."

To whatever degree Mr. Sanger appeared to marginalize the probiotics segment as a niche, he painted the market for low-sodium soup as one with greater potential.

It is in this sector that Campbell Soup Co., the principal competitor to General Mills Progresso brand, has introduced new products in the past 15 months with extraordinary fanfare.

Even last week, Douglas R. Conant, Campbell’s chief executive officer, was upbeat on the company’s low-sodium initiative.

"Our U.S. soup business was robust in the quarter and has performed well year to date, with lower sodium soups continuing to exceed our expectations in terms of consumer trial, repeat, and incrementality," he said in announcing earnings for the third quarter ended April 29.

While Campbell Soup touted what it describes as proprietary technology as a key prospective driver in its growth, Mr. Sanger was more guarded. Still, he said low-sodium soups are selling well at General Mills.

"They are running ahead of what we expected them to do," Mr. Sanger said. "I think there are a lot of low-sodium soups (on the market). We introduced some, Campbell did, Healthy Choice has some out there. Our four are among the top seven turning items in the category, so they’re turning well. I think we’re very satisfied with the way they’re working.

"I would say that there’s going to be a low-sodium segment, and I expect that it will grow as the population ages, as the baby boomer bulge gets into the senior years and is more concerned about sodium. We never perceived it as something that was going to radically revolutionize the soup market, but we thought it would be a segment that would establish itself, would grow, and particularly because the quality of the low-sodium soups is better today than (in the past). There have been low-sodium offerings in the soup category for a while, but certainly our items and I think Campbell’s items are good quality. So that means that you’re bringing people who are constrained by sodium into the category on a more regular basis."

While it remains to be seen whether General Mills will be able to return to the consistent financial out performance of earlier times, it is clear the company is fundamentally different from the General Mills of the 1990s.

The company had an international presence for several years, but this business reached the point that General Mills now is a global company with annual sales in the billions. In a shift fueled by the Pillsbury acquisition, the company moved from one in which its products sell mostly in supermarkets to one in which a wide range of distribution channels is tapped. Finally, the company has shifted from one heavily dependent on sales of ready-to-eat breakfast cereal to a food company with an increasingly diverse and balanced portfolio of products cutting across a number of categories.

While objectives were more ambitious earlier in the decade, the company is targeting sales growth in the low-single digits, operating profit growth in the mid-single digits, and e.p.s. in the high-single digits that, together with the dividend yield, will generate double-digit shareholder return.

"This financial track record is the ultimate measure of our long-term success," Mr. Sanger said.

This article can also be found in the digital edition of Food Business News, May 29, 2007, starting on Page 1. Click here to search that archive.

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