March, 2003

Fruits of Thought

The Bigger They Are

“It’s déjà vu all over again,” Yogi Berra would say as the produce industry watches the big boys struggle with three timeless strategies:

1. Vertical Integrations – With Del Monte’s purchase of Standard Fruit & Vegetable, Del Monte picked up a real winner. Standard is a fast growing company with a good business model, excellent management and superb prospects for the future. The best thing Del Monte executives could possibly do is give Jay Pack and his management team their phone number in Coral Gables and say call us if you need us. This would transform Del Monte into a produce holding company with autonomous subsidiaries and, very likely, would make Del Monte a lot of money.

But they won’t. The irony is rich, but while Del Monte was announcing its acquisition of this wholesaler/distributor, Chiquita was selling off the wholesaler/distributors it bought a decade ago to focus on its core business.

There is a fundamental problem for a shipper to own a wholesaler. If the shipper decides to force distribution of its own product through the wholesaler, then the wholesaler inevitability will disappoint its customers. After all, the whole reason the forced distribution is necessary is because that shipper sometimes will not offer the best combination of price, product and service. So the forced distribution circumscribes the success of the wholesaler.

If the shipper does not force distribution and allows the wholesale subsidiary to buy and sell autonomously, then the shipper doesn’t get any special advantage from owning a wholesaler.

It is why Chiquita can sell off these local wholesalers; it is why the last time Del Monte and Standard were under one corporate umbrella back in the days of Polly Peck, countless hours were spent in retreats searching for an elusive synergy. It’s also why every big shipper who has tried the wholesale business has beaten a hasty retreat.

2. Geographic Spread – When Wal-Mart began to pose a threat to supermarket chains, the chains realized a change was required. But, generally speaking, they selected the wrong course.

All the talk of industry consolidation has really boiled down to Wal-Mart gaining share, so to compete the three retail giants – Kroger, Safeway and Albertson’s – brought up chains all over the country while foreign chains, such as Ahold, expanded around the world and acquired U.S. footprints.

Well, it turns out this is not a particularly great strategy. The big problem is that combining a half dozen mediocre conventional supermarket businesses doesn’t make one sterling gem. Plus management at these chains has been so distracted by all these acquisitions that they haven’t addressed the changing retail market, and it has made them vulnerable.

Watch Wal-Mart’s march into California over the next few years. Safeway has had a decade to prepare. One would have thought Safeway would have rolled out its own Super center concept, secured all the best real estate, hired the cream of the available labor pool and, in general, spent a decade preparing for the assault. Instead management was busy buying and integrating stores in Texas, Chicago and Pennsylvania. Leaving the home base wide open.

3. The Public Market Imperative – If you really want to know what led Chiquita to the bankruptcy court, it was that the company had the good fortune to be preaching to Wall Street during a time when the banana industry had several good years in a row. This enabled Chiquita executives to persuade Wall Street that the Chiquita name would insulate the company from the vicissitudes of commodity pricing and justify Chiquita being valued at the higher market multiple of a company that can steadily increase profits quarter after quarter, year after year.

Of course, this wasn’t true, and so when things turned against Chiquita, all the debt that Wall Street sold for the company had to be serviced. When it couldn’t, it was a visit to the bankruptcy court.

The melodrama playing out at Ahold – where its U.S. Foodservice division made its quarterly numbers only by fudging the numbers on slotting fees and various kinds of market support and promotional funds – reminds us of the corrupting nature of being a public company in an industry subject to dramatic swings of prices and profitability.

Making the quarterly numbers became so important that the company did counter-productive things to achieve them. It is not uncommon among publicly held companies.

The advantage of being public is the ability to raise capital more easily, but honest produce companies will have earnings that fluctuate dramatically based on commodity pricing. This means the stocks will have a low valuation and won’t be very useful a tool for raising money or doing acquisitions.

There are exceptions; Warren Buffet of Berkshire-Hathaway has famously said he would prefer a bumpy 15 percent return to a smooth 12 percent return. But this is atypical. Wall Street is merciless with companies whose earnings go down, and any honest produce company will have earnings go down sometimes.

Which brings us to a hint of light at the end of the tunnel. It seems that Dole, the largest marketer of fresh fruits and vegetables in the world, will very shortly be taken private as David Murdock buys the portion he doesn’t already control.

They’ll have some debt to work off, but I think they can do better as a private company in the long term. Because when Dole is not making the quarterly numbers, they won’t have stupid meetings about how to goose the system. Done properly, they’ll be free to focus on building the business, accepting the vicissitudes of markets.

Everyone claims to see the future so clearly; consolidation, public companies, etc. The consensus is often wrong, and before we march our companies in line, we ought to imagine alternative futures.  pb