Defensive Strategy

Sara Lee’s Disaster in Bread

10 Nov 2010  

This week Sara Lee announced that it was selling its bread business to Mexico-based baking giant Grupo Bimbo, for $959 million.

The sale is an embarrassment for Sara Lee.  According to the Financial Times, Sara Lee acquired the baking unit in 2001 when it bought Earthgrains Corporation for $2.8 billion, making this a fine example of the buy high and sell low approach.

This is not a good way to build company value.  Not surprisingly, Sara Lee’s stock has performed poorly for a very long time.  Ten years ago you could buy a share for about $20.  Today you can buy a share for about $15.

So what went wrong?

I suspect the problem was simple: optimism.  Back in 2001 I’m certain Sara Lee executives thought they could turn Earthgrains bread into a profitable, growing business.  As a result, they paid a generous price to acquire it.

The reality of the situation soon became clear: bread is fundamentally a very difficult business.  It is capital-intensive and very dependent on operational excellence, getting the right amount of bread to the right stores at just the right moment.  Profits are slim; apparently the Sara Lee unit recently had an operating margin of just 1.4%.

Faced with a difficult, low-margin and slow-growth business Sara Lee elected to give up and sell it off.

Of course, the Sara Lee team should have taken a hard look at the bread business before paying a generous price to buy it.

After this transaction closes, Sara Lee will be down to meats and coffee; the company will use the proceeds of the bread sale to buy back stock.  Unfortunately, meats and coffee are tough businesses, too.  A couple more sales and Sara Lee will simply vanish.

Sara Lee’s bread experience is an important lesson for anyone considering an acquisition.  Never assume you can dramatically improve a business; the fundamentals may well be the fundamentals.  Optimism can cost you a lot of money.

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