Hormel Foods swooped to acquire natural and organic meat processor Applegate Farms earlier this week in a US$775m deal. In financial terms, the deal does not bring much to the table. Industry experts, however, have reacted favourably due to the long-term growth prospects of the natural and organic meat category. Hannah Abdulla explores what the deal means for Hormel.
Following months of speculation, Hormel Foods announced on Wednesday (27 May) it had struck a deal to acquire organic and natural meat producer Applegate Farms in a US$775m deal.
Go deeper with GlobalData
Applegate's annual sales are expected to be about US$340m this year. Including estimated deal costs and fair value adjustments, the deal is projected to be neutral to Hormel's earnings per share in fiscal 2015, and accretive by approximately seven to eight cents per share in fiscal 2016.
"The addition is not particularly significant in terms of Hormel’s consolidated business," Adam Flek, analyst at Morningstar says.
Nevertheless, industry experts have reacted favourably despite the deal's minimal short-term financial impact. In the wake of the announcement, shares in Hormel jumped 3%.
So why is Hormel – and the market – excited by the Applegate acquisition? In a nutshell, Applegate provides Hormel access to the growing natural and organic meat segment and entry into the natural channel.
How well do you really know your competitors?
Access the most comprehensive Company Profiles on the market, powered by GlobalData. Save hours of research. Gain competitive edge.
Thank you!
Your download email will arrive shortly
Not ready to buy yet? Download a free sample
We are confident about the unique quality of our Company Profiles. However, we want you to make the most beneficial decision for your business, so we offer a free sample that you can download by submitting the below form
By GlobalData"In terms of sales Applegate is too small to significantly boost Hormel’s revenue, but it would definitely help on the way of image change which, in turn, would positively impact sales in the long run," an analyst at Euromonitor tells just-food.
Applegate, founded in 1987 by Stephen McDonnell in the US, is committed to delivering meat free of antibiotics and hormones. It supplies refrigerated, fresh and frozen meat products to US retailers and has a significant presence in the natural channel. Its portfolio has a 70:30 balance between natural and organic products. The company has developed a strong network of 1,800 farm partners across the US and Canada.
In recent years consumers have become more aware of the link between what they eat and the impact on their health. According to Euromonitor, organic packaged food sales grew from US$10.3bn to US$12.8bn in the five years to 2014. Antibiotic-free is also pulling in a larger crowd. Findings by Consumer Reports, which carried out a survey in the US in 2012, suggested 86% of consumers thought antibiotic-free meat should be available in their supermarket and 61% of consumers would pay an additional 5 cents for antibiotic-free meat and poultry.
It has been a wake-up call for the US meat industry which, according to 2012 figures, bought 80% of all antibiotics sold in the US. Antibiotics are widely used in animal rearing to accelerate the growth of beef, chicken and pork. In the last year, some major names in US meat and poultry including Pilgrim's Pride, Cargill and Perdue Foods have made commitments to reduce or eliminate the use of antibiotics in the supply chain.
"Consumers are voting with their wallets," Jeffrey Ettinger, Hormel's chairman, president and CEO, said on a conference call with analysts to discuss the deal. "These attributes are important; natural, organic and antibiotic-free to a certain group of consumers. That's been steadily growing at a double-digit rate for a number of years."
Hormel has not, traditionally, had much experience in the natural, organic and antibiotic-free sectors. Its portfolio includes the Natural Choice range – but "natural" in the sense it has no artificial ingredients. Antibiotic-free is a new arena for the Spam owner. Channel-wise Hormel is focused on the grocery channel and has a presence in foodservice. The natural foods channel – one could say – is alien to Hormel.
"Our team has long considered how to build this from the ground up," said Ettinger. "Now we have a 25-year headstart, deep expertise and credibility in this space."
Meat aside, Hormel does carry some organic product lines. In July last year, the company acquired CytoSport, maker of Muscle Milk – which carries an organic line. Then there is the organic dip under its Wholly Guacamole brand, part of the Fresherized portfolio. So the desire to explore ways to break into the natural retail channel has does make strategic sense. Ettinger said at present Hormel is at "the very early stages of understanding that segment".
"More and more consumers, especially younger ones are gravitating towards natural and organic items. If you want to be a player or purveyor of those types of items delivered to a broad set of consumers, you have to figure out a way to get into that space. Your choices are you can build it yourself or team up with someone who has a headstart here," said Ettinger.
Today's world is undoubtedly driven by the 21st century consumer who demands simple, clean products that are better for his/her health. Hormel has seized an opportunity which gets it into the space early enough to become relevant. To try to build a following in this burgeoning category without such a "headstart" would have left Hormel years behind.
"Hormel’s movement is clever, as it secures the production chain," an analyst at Euromonitor says. "With clean label and origin becoming so important, they will benefit from the credentials of Applegate. Diversification is key. Spam may be an iconic product, but the tide is turning against it. Hormel wants to revamp its image and appeal to the growing number of consumers who look for alternatives to big brands – ‘cleaner’ products with organic and environmental claims from niche manufacturers associated with better nutrition."
Hormel can also benefit Applegate. In the last seven years, Applegate has moved into some mainstream retailers – such as Kroger – but with limited impact. Hormel's larger scale and long-term experience is likely to prove beneficial. Beyond this, there is Hormel's presence in the foodservice channel. More out-of-home eating venues are becoming aware of consumer demands when it comes to natural and organic eating. Fleck says Hormel’s exposure to traditional retail and foodservice customers will support Applegate’s strong growth trajectory.
As Hormel plans to bring Applegate's products to the fore it does raise questions about whether there is enough antibiotic-meat being produced to meet potential future demand.
Applegate at present, Ettinger says, is broadly well positioned with access to supply that is sufficient to fuel potential growth. But Hormel is prepared for challenges along the way, he assures, particularly with regard to organic and natural pork supply availability. Organic in particular is seeing supply constraints and this is likely to become a bigger issue "especially if growth rates were to accelerate".
"We've taken potential supply challenges into consideration and are confident that we can navigate such situations and still support the value of this business. In the short term, we recognise that right now the business [Applegate] could be growing robustly when it comes to pork based supply. So that will be a focus for us over the next couple of years."
There is "certainly a potential" to have a conversation with Hormel's own farmers to explore the possibility of converting to non-antibiotic farming, Ettinger adds. But this raises concerns of integrity. With Applegate operating as a stand-alone entity, it seems its own management team that would weigh in on such major decisions. Ettinger was keen to stress Hormel would simply work to keep Applegate's "successful" supply chain and help "support its growth".
"The key is the standard Applegate has set – we are going to have to get used to working with teams that meet their [Applegate's] supply chain needs and if that marriage can happen, then that certainly is something we should be exploring in detail."
The natural and organic prepared meat category, according to Fleck, is growing more than three times as fast as overall grocery sales. As it continues to garner a wider following, one burning question is whether more meat processors are going to look at capitalising on the opportunity, which could result in higher competition in the space. Speaking of Applegate, Robert Moskow, analyst at Credit Suisse said: "It's a great brand, I've seen it everywhere. But if a lot more brands convert, would that bring more competitors?"
"Any attractive space is going to generate more competition," Ettinger said. "But I think if you have a leading brand and correctly continue to nurture that relationship with the consumers and treat suppliers correctly, there's no reason you shouldn't be able to ride the wave of category growth and maintain your strong share."
He added: "There will be other entrants. But you don't just wave a wand and suddenly become relevant and meaningful and trusted to an especially discerning category of consumers. I think that's a significant advantage Applegate brings."
