Italian confectioner Ferrero has made a surprise move for UK chocolate maker and retailer Thorntons. One cannot ignore the fact Thorntons has had some challenges, not least in recent quarters with sales to UK multiples under pressure. What could be behind Ferrero's decision? Hannah Abdulla explores.
In recent quarters, Thorntons has faced something of a turbulent time. The UK chocolate group's share price has languished in response to a number of issues from profit warnings to credit lending. In the first half of Thorntons' current financial year, six months that ran until 10 January, the company reported an 8.2% drop in sales to GBP128.2m (US$202.3m) after it lost business with two major supermarkets. Net profit fell to GBP5.2m.
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The performance has been disappointing for a company that, in recent years, has looked to reshape its operations. Under the stewardship of outgoing CEO Jonathan Hart – who announced his resignation a month ago – Thorntons has become a group less focused on its own retail outlets and one where sales to other UK retailers is now the largest chunk of the company's business.
In 2011, Thorntons owned 371 stores and 229 were franchised. By June this year, Thorntons owned 247 outlets and franchised 175 others. Long term, the confectioner has said it is looking to reduce the number of owned stores to between 180 and 200 stores.
If one looks at Thorntons' results for its most recent full financial year – for the period to 28 June – Thorntons' top line and underlying pre-tax profits were higher than in the fiscal year before Hart took the reins.
Nevertheless, selling to the UK's multiples is a challenge and, in recent months, there have been signs Thorntons has found the going tough.
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By GlobalDataThorntons last reported to the City on 29 April, when it provided a trading update for the third quarter of its financial year. Sales were down 6%, contributing to a more than 7% decline for the first nine months of the year. The company's FMCG division, which also includes its fledgling international business, saw UK commercial sales slide 6.1% in the third quarter.
Thorntons' now smaller retail estate, which continues to see stores closed and relocated, saw like-for-like sales inch up 0.1% for the third quarter and increase 1.5% for the first three quarters of the year.
As Thorntons has reshaped its business, the company has managed to grow its share of the UK chocolate confectionery market. According to Euromonitor International, Thorntons is the fourth-largest player behind Mondelez International, Mars Inc, and Nestle. Euromonitor estimates Thorntons' market share will hit 4.5% in 2015, up from 4% in 2010.
The data suggests Ferrero has also enjoyed growth in the UK since the start of the decade. In 2010, Ferrero was neck-and-neck with Lindt & Sprungli in fifth, with a market share of 1.9%. By the end of this year, Ferrero's market share will hit 3.2%, Euromonitor estimates, although Lindt is forecast to be ahead at 3.2%.
Ferrero has made growth in the UK a strategic priority. According to Euromonitor the UK is its highest growth market in western Europe.
"Thorntons has got a huge market share," asserts Matthew McEachran, analyst at N+1 Singer. "The rationale behind the deal according to Ferrero is to expand its footprint in the UK and also to build the Thorntons brand. There is already a plan in place to increase the FMCG, wholesale commercial channel and shrink retail. Whether they carry on trying to shrink retail remains to be seen – they've got short leases so if they did want to, they would be able."
Thorntons' recent work to close under-performing stores means its retail business, despite lacklustre sales growth, are less of a hindrance to the business than in recent years, McEachran asserts."I would say there is less of a liability in terms of the retail estate than has historically been the case," he says.
Euromonitor believes Ferrero is likely to use the Thorntons stores to work in its favour. Unlike its immediate high-end confectionery competitor Lindt, Ferrero has no other outlet for its products except the grocers.
"What it [Ferrero] has historically lacked…is a retail platform suitable for some of its more premium offerings. The Thorntons store network will provide the company the opportunity to add a more directly experiential approach to its strategy," says Lamine Lahouasnia, head of packaged food research at Euromonitor. "If all goes well with absorption of Thorntons stores in the UK, we could see similar happenings around the world in years to come."
The move to acquire Thorntons could see Ferrero overtake Lindt in the UK, Jack Skelly, food analyst at Euromonitor, says. Skelly says there is likely to be a "retailing battleground between the two".
However, Skelly says Ferrero faces a challenge trying to avoid brand dilution if it tries to sell more of its products in the Thorntons stores.
"That would risk diluting both of the brands. It might cannibalise the sales if you have two brands in the stores. Ferrero says it doesn't want to get rid of Thorntons from stores but I can imagine this being done to really boost Ferrero's premium brands it is looking to launch. I think the real challenge will be to make sure both of these brands stand as separate entities".
Nevertheless, a takeover by Ferrero could help boost the performance of Thorntons' FMCG division, now its largest business, and which sells to supermarket chains.
"The CEO who was overseeing the strategy came from more of a retail background," argues McEachran. "He departed and there was a lot of speculation on who would take over. We speculated it would be someone from the FMCG side with that experience. Clearly Ferrero has that experience, so there is an immediate synergy in terms of bringing some proactive approach and skillsets into the FMCG channel so that will be an obvious advantage for them."
Trying to grow Thorntons – given the struggles it is facing is likely to be a challenge. It has lost orders from leading retailers and has suffered profit losses. "It's not going anywhere fast," concedes Skelly.
Ferrero offered GBP1.45 per share for Thorntons, valuing the business at just under GBP112m. The company said the bid represented a premium of 66.6% over Thorntons' average three-month closing price. Nevertheless, some industry watchers believe Thorntons is quite a steal.
"At the equivalent of just 1.8x the level of Thorntons’ revenues forecast for its recently completed financial year, there can be little question that the Italian company obtained an excellent deal," asserted CityIndex analyst Ken Odeluga yesterday.
The offer was recommended by Thorntons' management, with Ferrero announcing it had already acquired a 29.9% stake in the business after buying shares held by activist fund Crystal Amber and by the former chairman of the UK group, John von Spreckelsen, and his family. The 29.9% stake also included shares bought from investment fund Hotchkis & Wiley.
Ferrero said it has received "irrevocable undertakings" to accept the bid from shareholders that own a further 4.24% of the company.
At just after 15:00 BST yesterday, Ferrero announced it had acquired – or received undertakings – for a shareholding of around 38.98% in the business, making its offer mandatory.
In a matter of weeks, Thorntons will join the Ferrero empire. It will be fascinating to see if Ferrero can inject growth into the business.
