Hillshire Brands (HSH) shares shot up more than 20% Tuesday on news that Pilgrim’s Pride (PPC) is offering $6.4 billion — or $45 per share of HSH stock — for the maker of Jimmy Dead Sausages, Ball Park hot dogs and other brands.
The offer for Hillshire Brands throws a wrench into HSH’s own plans to acquire Pinnacle Foods (PF) for $6.6 billion. So now, Hillshire’s management and board of directors must now consider whether it’s better to be the acquirer or the acquired — after all, that will have a major impact on where HSH stock goes from here.
Personally, I think a bird in the hand is worth two in the bush. But … in an effort to consider all sides, here are the pros of taking the offer from Pilgrim’s Pride vs. going it alone.
Pilgrim’s Pride as Owner
Pilgrim’s Pride, which is based in Greeley, Colo., is 75.5%-owned by JBS S.A. (JBSAY), a Brazilian company that also happens to be the world’s largest protein company. Just five days ago, JBS CEO Wesley Batista told Bloomberg in an interview in Sao Paulo that more acquisitions were on the way despite digesting $17 billion over the past decade alone. Apparently, he wasn’t just talking.
It’s obvious why PPC is gunning after Hillshire, as it brings several things to the table.
For one, the combined company would have annual revenues of $12.4 billion with $1.4 billion in EBITDA.
Also, while Pilgrim’s Pride is a very unsexy company, Hillshire adds a little sizzle — it adds several brands that don’t have much overlap with PPC, and it’s in the midst of a transformation that focuses Hillshire on becoming the most innovative branded food company in the US. To that end, it announced in April that it had acquired Van’s Natural Foods for $165 million. (Those of you in California are likely familiar with Van’s waffles and pancakes.)
So, how does this marriage work out better than if Hillshire were to buy Pinnacle?
The combined Hillshire/Pinnacle would have a significant amount of debt. (Fitch downgraded Hillshire’s debt to BB from BBB on May 13 specifically for this reason.) The pro forma total debt would be $5.8 billion, or a little more than five times EBITDA. While Fitch sees the transaction as transformative, you have to wonder if it’s worth paying 13 times EBITDA for a business that grew sales by less than 1% in 2013 — while incurring a large amount of debt, no less.
Meanwhile, if Pilgrim’s Pride buys HSH, the combined business would have pro forma leverage of four times EBITDA — so, 20% less than the Pinnacle combo. Meanwhile, Pilgrim’s Pride is offering HSH shareholders the equivalent of 12.5 times EBITDA. Not only that, but it’s willing to cover the $163 million termination fee that Hillshire must pay to Pinnacle Foods should it back out of its deal.
All three of these companies are barely growing, with not much hope for anything but single-digit revenue increases in the immediate future.
Pilgrim’s Pride gives HSH stock holders a profitable way out.
And If Hillshire Teams Up With Pinnacle?
A combination of Hillshire Brands and Pinnacle Foods gives the merged company three brands with revenues of $1 billion or more, four brands of more than $250 million annually and three up-and-coming brands that includes Van’s.
It’s a very enticing proposal that will increase Hillshire’s scale, diversify its product lines and be immediately accretive to earnings.
What’s not to like?
In addition, a combination of the two firms puts Hillshire CEO Sean Connolly in charge of a $7 billion company with market share dominance in the frozen, refrigerated and grocery categories. With estimated annual cost savings of $140 million by 2017, the bottom line should be far more robust in three years regardless of whether it can deliver any organic growth from the merger.
Ultimately, stock prices are driven by earnings … so from that perspective it makes a whole lot of sense.
The answer to which result is best has to do with point of view. And ultimately, the one that matters most as far as HSH stock is concerned is from the viewpoint of the shareholders.
While Hillshire Brands’ CEO is obviously happy with its deal to buy Pinnacle Foods, it’s incumbent upon him and the board to do what’s best for shareholders. And if I held HSH stock, I’d want Connolly and the board to coax a better offer out of Pilgrim’s Pride.
In my opinion, Connolly should ask for $47. When and if Pilgrim’s Pride CEO Bill Lovette responds affirmatively to his request, Connolly should gladly take the deal.
HSH shareholders: It’s time to move on.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.