Is Dean still angling for a spin-off?

by L. Joshua Sosland
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Is Dean Foods Co. making progress toward spinning off its fast growing WhiteWave-Alpro subsidiary?
In a presentation nearly a year ago at the annual conference of the Consumer Analyst Group of New York, Gregg L. Engles, chairman and chief executive officer of Dallas-based Dean Foods, appeared to validate assertions that spinning off the fast growing WhiteWave-Alpro from the company’s dairy and distri-bution business likely would be rewarded by the investment community.

“I think it’s safe to say that the market would assign an independent WhiteWave-Alpro company a significantly higher multiple than the combined businesses currently receive,” he said (see Food Business News of March 15, 2011, Page 1). “The viable alternatives for getting at the value, however, each has significant costs or obstacles today.”

In the third quarter of 2011, the WhiteWave division accounted for 36% of Dean Foods’ operating income even though the segment, which includes brands such as Silk and Horizon Organic, generated only 16% of total sales. For many years the division has been growing rapidly, in contrast with the struggles of the far larger Fresh Dairy Direct-Morningstar division.

Discussing the various op-tions in the CAGNY presen-tation, Mr. Engles identified a spin-off, a tax-free transaction, as a more appealing choice than an outright sale of White Wave-Alpro, since the divestiture would trigger a large tax bill.

A tax-free spin-off is “both a theoretically and practically attractive alternative,” Mr. Engles said in his presentation.

Keeping such a spin-off from becoming a reality, though, was the company’s excessive debt load, he said. He noted that at the end of 2010, Dean carried $3.9 billion in long-term debt against $1.5 billion of equity. He expressed the hope that the WhiteWave-Alpro business would continue to grow, allowing the company to reduce the leverage on its balance sheet.

Retaining ownership of the subsidiary “preserves our future ability to separate the businesses tax free until such time as we have sufficiently deleveraged our balance sheet to support two separate businesses without diluting current shareholders by issuing additional common equity,” he said.

Nearly one year later Dean appears no closer in its objective of deleveraging its business to the point a spin-off would be possible. To the contrary, the company’s balance sheet has deteriorated dramatically over the past year. While the WhiteWave-Alpro business continues to prosper, the Fresh Dairy
Direct-Morningstar business has remained mired in a poor operating environment, conditions the company said are likely to persist.

Specifically, in the third quarter ended Sept. 30, 2011, Dean announced an impairment charge of $1.9 billion, re-sulting in a quarterly loss of $1.6 billion. The charge represented a reduction in the implied value of the F.D.D. goodwill assets.

In commenting on the charge in a Nov. 9, 2011, conference call with investment analysts, both
Mr. Engles and the analysts focused on the lack of impact the charges have on Dean operations. He
suggested the effect of the write-off was limited to the fresh dairy business with no impact on WhiteWave.
“First, the charges and accounting adjustment that reflects significantly changed industry conditions that have impacted both consumption and pricing across F.D.D.’s key categories,” Mr. Engles said. “And that, we believe, will continue to impact Fresh Dairy Direct going forward. Second, this charge is related only to the Fresh Dairy Direct business. The WhiteWave, Alpro and Morningstar businesses have not been negatively affected by these conditions to the same degree as F.D.D. And the goodwill associated with these businesses is not impaired. Third, this is a non-cash charge and has no impact on our operations, cash flow, or financial covenant compliance.”

To whatever degree the loss did not affect the company’s operations, the charge upended the figures cited by Mr. Engles at CAGNY as holding the keys as to whether and when a spin-off of WhiteWave may be possible. As of Sept. 30, the shareholder equity figure of $1.5 billion Mr. Engles estimated for the end of 2010 was wiped out. The Dean Foods balance sheet Sept. 30 showed no equity — actually a negative $58 million. Meanwhile, long-term debt was indicated to have declined only modestly during the nine-month period, by $200 million (to $3.9 billion, versus $4.1 billion in December 2010, as stated in the company’s September financials).

While he said at CAGNY a spin-off was more attractive for shareholders than an outright sale, Mr. Engles did identify a number of positives to a sale. He said such a transaction would help “eliminate much of the financial risk” associated with the company’s high level of indebtedness. Proceeds from such a sale could help Dean transform the remaining dairy business, he said.

“But this strategy comes with significant costs,” he said. “First, because of our low tax basis in these businesses, we would incur significant taxes upon sale, which would materially diminish the net proceeds we would receive for the business and meaningfully erode the premium multiple we seek to capture. But more importantly, we would have parted with our highest-growth, highest-return business and concentrated our value into our slower-growth, lower-margin segment.”

Whether the sale option is still viewed as a far less attractive one by the company a year after Mr. Engles’ remarks is a question still to be answered by the company’s management. A spokesperson contacted by Food Business News for this story declined to comment “beyond Mr. Engles statements at CAGNY last year, and the commentary made in our filings regarding the non-cash goodwill impairment.”
The value of the WhiteWave-Alpro division does not appear to have suffered at all during the past year. In the third quarter, the division’s net sales were up 11% from the third quarter of 2010 while adjusted operating income was up 34%.
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