Nestle Wants a Bigger Slice of the Pie

The Most Profitable Contrarian Investment Strategies for 2010 and Beyond
The 2010 Investment U Conference is underway! And even if you couldn't make it, now you can "bring home" more than 30 breakthrough presentations from the conference... Order the Deluxe MP3/Video Library for $99 to listen and view on your computer, or the Premier CD plus MP3/Video Library for $149 to listen to and view anywhere.

What Nestle Wants, Nestle Gets… And Right Now, Nestle Wants a Bigger Slice of the Pie

by Tony Daltorio, Investment U Research
Monday, January 18, 2010

It would take far too long to list the leading brands Nestle ADR (OTC: NSRGY) owns, considering that it’s the world’s biggest food corporation with operations in almost every country.

Suffice it to say however, that you’ve probably purchased at least a few of their dairy products, bottled water, ice cream, pizza, pasta, soup, frozen foods, infant nutrition, adult nutrition, pet foods and of course, their chocolate at least once in your lifetime, if not every time you make a grocery run.

And despite its enormous size, Nestle continues to experience real organic growth – like the 7.5% expansion it recorded in emerging markets from January through September last year, which helped offset losses elsewhere and resulted in an overall 3.5% growth rate for those three quarters.

Then again, that’s no big surprise considering the strong, steady performance Nestle has delivered to its investors for decades now. Even over the past ten years, with all of its financial disappointments, the corporation’s stock rose by nearly 200%.

As for the next ten years… Nestle looks well set to impress once again.

Nestle’s $40 Billion Haul And It’s Next Delicious Takeover

Nestle can trace much of its success to a superb management team – the same one that just sold its majority holding in eye care company Alcon (NYSE: ACL) to drug firm Novartis ADR (NYSE: NVS) for $40 billion. That’s especially impressive considering how Nestle originally bought those shares in 1977 for a paltry $240 million.

And now, with its well-earned gains, management has its eyes on a new prize, this time in North America.

Despite core operations in Europe, the United States accounted for over 25% of the corporation’s sales in 2008. With regular acquisitions and strong organic growth, both American continents represent Nestle’s biggest sales region.

That gives management a very good reason to add a new strategic pillar to its North American business by purchasing the DiGiorno, Tombstone and California Pizza Kitchen labels from Kraft Foods (NYSE: KFT) for $3.7 billion.

For any normal company, that would constitute a pretty big bite. But for Nestle, it was little more than a large morsel – albeit a very profitable one with operating profits of $279 million last year.

Kraft controlled 15% of the $37 billion U.S. frozen pizza market in 2009, marking four years of double-digit growth rates driven primarily by DiGiorno, Tombstone and California Pizza Kitchen.

But impressive as those results are, Nestle believes it can do even better.

A Strategy to Enjoy

Traditionally, Nestle focuses on buying businesses with higher margins and growth than mainstream foods, so frozen pizza fits in well with its other key products.

Euromonitor International reports that from 2004 to 2009, the frozen pizza industry grew globally at a compound average growth rate of 22.5%. And while analysts expect that to slow to 12.8% up through 2014, the U.S. market will likely buck the trend at 17%.

The acquisition also makes sense considering the hefty position Nestle already has in North American frozen foods. And in the future, it can find new ways of marketing its pizza with its already existing Hot Pockets, Stouffer’s and Lean Cuisine brands in supermarket freezer aisles… or even introducing its European-geared Buitoni brand in the US market, while offering U.S. brands over there.

Regardless of which way it chooses to run with the new business, Nestle believes it can boost the operating margin for its frozen pizza business from last year’s 13.3% to 20%. As things stand now, it sees the acquisition increasing sales by approximately 7% or $150 million within five years, and forecasts that the deal will even boost earnings per share in just the first full year of ownership alone.

In all, Nestle notes that the deal represents a “natural fit” with its focus on delivering convenient frozen foods to consumers around the world. And considering how the company still sees significant potential in North America, this might not be the last takeover management considers in the near future.

That’s especially true considering that the only reason Kraft put its pizza division up for sale in the first place is that it needed more cash to sweeten its Cadbury ADR (NYSE: CBY) bid. And since that battle is far from over for more than one company involved, Nestle could gain other profitable treats this year.

Even if it doesn’t though, investors won’t be disappointed in the slice they get from owning this company.

Good investing,

Tony Daltorio