Sweetening the deal - Numbers justify acquisitions, not friends who have done something similar


Jamie Lowry

Jamie Lowry

Fund Manager, Equity Value

Earlier this month, when the Financial Times interviewed Jürgen Steinemann, chief executive of the world’s largest chocolate producer Barry Callebaut, what caught The Value Perspective’s eye was not so much the recent deal that will now also put the Swiss company at “the top of the global cocoa-processing league” as the striking example of a particular behavioural finance characteristic.

In the article, Steinemann admits he initially had reservations over the $860m (£548m) price tag Barry Callebaut paid for the cocoa division of Singapore’s Petra Foods but adds, in the context of the markets his company has bought into, “it is merely ‘full’, rather than too high” – something he double-checked by calling “five CEO colleagues who had recently done acquisitions in the food arena in Asia”.

“And you know what they all said to me?” he continued to the FT. “They said: ‘You have the syndrome of the mature market man’ … If you have a growth business in a market that grows 5% to 10%, you have to pay a different cheque than if you are in a market where you can only grow a per cent by stealing away from somebody else. So in that sense, I feel comfortable.”

It is nice he feels that way but, in the opinion of The Value Perspective, this is one of the best ‘live’ examples of confirmation bias you will ever see. A chief executive has done a huge and expensive deal and then rung up all his peers who have done similarly huge and expensive deals to ask their opinion on whether he has done the right thing.

If they do not endorse the chief executive’s decision, they themselves will look a bit silly – and there is your behavioural finance red flag. Could it be that Steinemann is trying to justify the deal because he is still a little worried he overpaid? Ever willing to help, The Value Perspective is happy to crunch some numbers to try to set his mind at ease.

After initially announcing it would pay $950m for Petra Foods’ cocoa division, Barry Callebaut eventually agreed that $860m price for a business that last year generated $1bn of revenue. In the same year, the business’s EBITDA (earnings before interest, tax, debt and amortisation) figure was about $20m, which means Barry Callebaut has paid more than 40x EBITDA for its acquisition.

At first glance that feels a little toppy but could it be justified by the outlook for global cocoa-processing – an area in which, by virtue of its acquisition, Barry Callebaut now has a market share of almost 30%? In the FT article, Steinemann concedes there is currently too much supply of cocoa globally but he has high hopes for the future.

The article continues: “In the long term, however, global demand will catch up with supply again, says Steinemann, pointing out that Asian demand for cocoa powder is projected to grow at between 5% and 9% over the next five to 10 years, while South American demand will rise between 3% and 8%. ‘I’m not worried,’ he says.”

But should he be? Let’s say Steinemann wants a 10% return on the $860m investment – in other words $86m. With the business’s tax rate around 17%, this would need a pre-tax return of about $100m. So at what rate would revenues have to grow over the next 10 years – at an average margin and with no additional investment – in order to make that work?

According to The Value Perspective’s calculations, revenues would have to grow at 12% a year – which of course is quite a way above the rates about which Steinemann professed himself unworried. The chief executive may be happy his five peers – and confirmation bias – were able to justify the deal but unfortunately the maths does not.


Jamie Lowry

Jamie Lowry

Fund Manager, Equity Value

I joined Schroders in 2004 as an equity analyst in the European Equity Team initially specializing in the Industrial sectors before moving on to Consumer-based companies and finally Insurance. In 2007, I became a co-manager on a fund investing in undervalued European companies and took on sole responsibility for the fund in May 2010. Prior to joining Schroders, I worked at Hedley & Co Stockbrokers and Deutsche Asset Management as a trainee analyst.

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