After its ‘near-death experience’, where does Unilever go from here?

Joe Brennan: Behemoth has been struggling to grow its sales at same pace as rivals

It's five years next month since Unilever, home of household brands from Hellmann's mayonnaise to Dove soap and Domestos disinfectant, fended off an unwelcome £115 billion (€137.6 billion) bid from US food giant Kraft Heinz.

The "seven-day war of independence", as it became known in quarters of the City of London, ended with the Kraft Heinz giant backing off, after its target vowed to use every tool in the book to avoid being gobbled up whole in what would have been one of the biggest deals in corporate history.

The past seven days, however, have seen Unilever escape a “near-death experience” of its own making.

That's how influential British fund manager Terry Smith – whose Fundsmith firm is a top 15 Unilever shareholder – has characterised the group's £50 billion offer for drugmaker GlaxoSmithKline's (GSK) consumer business, which leaked last weekend, and has now being abandoned, after a severe backlash from investors and debt ratings agencies.

Proposal

The bid, in fact, was a third proposal from Unilever for a business that includes Sensodyne toothpaste, Panadol painkillers and Emergen-C vitamin supplements in its vanity unit of brands. All three were rejected as "fundamentally" undervaluing the prospects of a unit – in which Pfizer has a 32 per cent stake – that GSK had been preparing for a spin-off into a separate listed company by the middle of this year.

Some £10.8 billion was wiped off the market value of Unilever (now based in London after ditching its Anglo-Dutch structure in 2020) as its share price slid move than 10 per cent in the first two days of the trading week.

Shares in the company, which also counts Ben & Jerry's ice cream and Knorr among its 400 brands, have staged a tentative rally since it confirmed in the middle of the week that it had abandoned the idea of coming back again.

But unfortunately for its chastened management team, led by chief executive Alan Jope, it merely brings it back to about the £36.50-per-share level of Kraft Heinz's offer of February 2017. Peers Nestle and Procter & Gamble, meanwhile, have surged about 65 per cent and 80 per cent over the past half-decade.

Unilever has been struggling to grow its sales at the same rate as its closes peers in recent years, partly, according to Bank of America analysts, due to management that is "overly focused" on profitability and unwilling to step up investment.

The company told analysts on a trading update call in October that it was successfully pushing prices up across all its regions last year, amid a global spike in inflation for raw materials. But it's come at a cost, with sales volumes falling across Asia amid tough competition from local homecare players. Some 60 per cent of its business is in emerging markets.

Direction

Unilever said on Monday that its future strategic direction lies in materially expanding its presence in health, beauty and hygiene, areas that offer “higher rates of sustainable market growth” for the group. While hygiene and personal care products account for 60 per cent of its sales, consumer healthcare – comprising oral care and vitamins, minerals and supplements – make up just 5 per cent of group sales.

Fitch, the debt ratings agency, was quick to come out after the weekend to warn that a £50 billion deal for the GSK unit put Unilever's prized A-level credit at risk of a "multi-notch downgrade" as it was likely to increase its debt to 4.5-5 times its pre-tax profit. Fitch considers pulling an A rating on a company once its debt ratio goes above 3.3 times.

There were also major question marks over the growth GSK’s consumer products could inject into Unilever. While GSK said last weekend that it was “confident” the business could deliver 4-6 per cent sales growth over the medium term, that is materially higher than the 2.5-3.5 per cent GSK had guided as this product category’s growth prospects at a broker conference last June, analysts said.

While there is speculation in the market that Jope may now turn his attention to another big target, JP Morgan analysts, led by Celine Pannuti, said in a note to clients on Thursday that Unilever management's credibility has been dented by the whole episode.

Might the focus now turn to divestments – such as its food and refreshments division – to unlock value? After all, it sold its tea business, including the Lipton and PG Tips brands, to private equity group CVC late last year for €4.5 billion.

Jefferies analyst Martin Deboo concluded this week that the "emotional spasm" directed by investors at Unilever's board and management this week is "precisely the crisis event" the group needed: one that will result in a wider review of its portfolio of brands.

With Unilever due to report full-year results on February 10th, Jope has less than three weeks to redeem himself and come up with a clear, and acceptable, strategy.