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The Pennsylvania State University Schreyer Honors College THE PENNSYLVANIA STATE UNIVERSITY SCHREYER HONORS COLLEGE DEPARTMENT OF SUPPLY CHAIN AND INFORMATION SYSTEMS LOGISTIC INTEGRATION: THE OVERLOOKED FORCE DRIVING THE FUTURE OF THE KRAFT HEINZ MERGER TANNER VANKLEECK SPRING 2016 A thesis submitted in partial fulfillment of the requirements for baccalaureate degrees in Accounting and Finance with honors in Supply Chain and Information Systems Reviewed and approved* by the following: Robert Novack Associate Professor of Supply Chain Management Thesis Supervisor John Spychalski Professor Emeritus of Supply Chain Management Honors Adviser * Signatures are on file in the Schreyer Honors College. i ABSTRACT Over the past three decades, mergers and acquisitions have become an integral component of the economic system. Although the financial crises of 2008 cut M&A activity in half, the past four years have seen volume and value of M&A deals recover to near record highs. Fueled by cheap credit and a need to expand, the economy is appearing to be in the midst of another merger wave. Although the macroeconomic events driving these waves and the individual motives behind each merger are ever changing, the failure rate of mergers has remained fairly constant. Between sixty and eighty percent of all mergers end without achieving the desired economic return. Although much research has been done regarding this topic, success rates have not improved. The issue concerning many of these deals is that they are only analyzed on the financial level, and not at the logistical operating level. The result is that many potential financial synergies and gains are not realized since the logistics networks either cannot be combined or the integration is handled poorly. Through the lens of the Heinz and Kraft merger, this study provides a framework for firms to use in analyzing supply chain synergies prior to a merger while showing that potential financial synergies can be derailed by poor logistical integration. ii TABLE OF CONTENTS LIST OF FIGURES ..................................................................................................... iii ACKNOWLEDGEMENTS ......................................................................................... iv Chapter 1 Introduction ................................................................................................. 1 Chapter 2 History and Motives Behind Mergers ......................................................... 3 The Beginnings of the Merger ......................................................................................... 3 Merger Waves .................................................................................................................. 4 Current Environment and CPG Industry .......................................................................... 5 Merger Motives ................................................................................................................ 7 Chapter 3 The Acquirers .............................................................................................. 12 Background ...................................................................................................................... 12 Acquisition Process and Past Acquisitions ...................................................................... 13 Methodologies After Acquisition ..................................................................................... 16 The Role of Warren Buffet .............................................................................................. 18 Chapter 4 Financial Ratio Analysis ............................................................................. 20 Criteria ............................................................................................................................. 20 Iconic Brands with Potential to Grow .............................................................................. 21 Room for Improvement .................................................................................................... 23 Cash Intensive Companies ............................................................................................... 30 Summary .......................................................................................................................... 33 Chapter 5 Logistics Network Analysis ........................................................................ 35 Logistics Framework ........................................................................................................ 35 Distribution Network ....................................................................................................... 37 Hybrid Network ............................................................................................................... 39 Creating an Integrated Framework ................................................................................... 41 Chapter 6 The Future and Potential Concerns ............................................................. 43 Future Potential ................................................................................................................ 43 Organizational Concerns .................................................................................................. 44 Logistical Concerns .......................................................................................................... 46 Chapter 7 Conclusion ................................................................................................... 49 BIBLIOGRAPHY ........................................................................................................ 50 iii LIST OF FIGURES Figure 1 Merger & Acquisition Trends in United States ......................................................... 6 Figure 2 Global Merger & Acquisition Trends ........................................................................ 6 Figure 3: 3G Capital Acquisition Timeline .............................................................................. 14 Figure 4 Kraft and Heinz Domestic and International Sales.................................................... 21 Figure 5: Heinz Regional Sales Breakdown ............................................................................ 22 Figure 6: Heinz Year over Year Revenue Growth Pre-Acquisition......................................... 24 Figure 7: Heinz 2012 Change in Revenue, Gross Profit, and Operating Income .................... 25 Figure 8: Heinz EBITDA and Operating Profit Breakdown .................................................... 27 Figure 9: Kraft Year over Year Revenue Growth .................................................................... 28 Figure 10: Kraft and Competitors Average of Gross and Operating Margins (2014) ............. 28 Figure 11: Kraft 2013 and 2014 Year over Year Revenue and Gross Profit Growth .............. 29 Figure 12: Heinz Unlevered Free Cash Flows ......................................................................... 31 Figure 13: Kraft Unlevered Free Cash Flows .......................................................................... 32 Figure 14: Heinz Levered Free Cash Flows ............................................................................. 33 Figure 15: Supply Chain Network Design Process .................................................................. 36 Figure 16: Centralized Distribution System ............................................................................. 38 Figure 17: Hybrid Distribution System .................................................................................... 40 Figure 18: Supply Chain Audit Process ................................................................................... 41 Figure 19: Heinz Cash Conversion Cycle ................................................................................ 47 iv ACKNOWLEDGEMENTS Thank you to Dr. Robert Novack for all of the guidance you have provided me throughout this process. Since freshman year you have allowed me to examine problems from a viewpoint outside that of accounting and finance alone. You have provided me a broader perspective on how businesses run and I would not have been able to complete this thesis without your help. I would also like to thank my parents and all my loved ones for your unwavering support and love. It would have been impossible to get to where I am today without you. 1 Chapter 1 Introduction On March 25, 2015, Kraft and Heinz, two of the most iconic food brands, announced they would merge. The deal created the third largest food and beverage company in North America and fifth largest in the world. Similar to many deals in the current merger wave, the combination of the two firms was driven by a desire to obtain market expansion and synergistic gains. Market saturation and competition in developed markets are forcing companies to focus both on international growth and domestic economies of scale in order to remain competitive. The merger of Heinz and Kraft would appear to achieve both of these goals. The two companies are iconic brands with many overlapping components in the North American market. At the same time, the 2012 split of Kraft and Mondelēz International has left Kraft heavily concentrated in North America and primed for international expansion. However, many previous mergers that have been just as touted for potential financial gains have ultimately ended in failure. There has been significant research conducted on why mergers fail at such high rates. Components such as the initial economic valuation,
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