London, April 13 - As Cadbury Schweppes moves closer to being a pure confectionery company by selling its North American Dr Pepper drinks unit, industry analysts say it should now pull off a merger deal before it becomes a target.
Cadbury's shareholders on Friday approved the British group's plan to spin off Dr Pepper in May, and analysts say the company is now looking to buy U.S.-based chocolate maker Hershey Co.
The deal would have clear strategic logic, as Cadbury, the world's biggest confectionery group, lacks presence in the U.S. chocolate market, while Hershey is looking to expand overseas.
The London-based maker of Dairy Milk chocolate, Trident gum and Halls cough drops will be reborn on May 2 as Cadbury Plc after being wedded to Schweppes for 39 years. The Dr Pepper Snapple Group (DPSG) unit will be separately listed in New York from May 7.
"Cadbury's management has made clear that they are interested in a deal with Hershey in order to consolidate the confectionery industry," said analyst Ian Kellett at Numis.
Others are conscious of the obstacles, particularly the potential obstruction of the trust that controls Hershey.
"It would make strategic sense to combine Hershey and Cadbury in the U.S., although it is unlikely near-term, given the trust's commitment to retain control of Hershey," said Polly Barclay at Cazenove.
However, last week's announcement that the Hershey Trust's Chief Executive Robert Vowler, Hershey's top shareholder, will retire in April 2009, could mean events are moving forward after fruitless Cadbury-Hershey takeover talks of recent months.
Cadbury's shares closed down 2.6 percent at 563-1/2 pence on Friday after what analysts called a disappointing first-quarter trading update. At that price the group is worth about 12 billion pounds ($23.7 billion), while Hershey's market capitalisation is around $8.8 billion.
TWICE THE MARGIN
Although the U.S. confectionery market shows low growth, it is the largest in the world, accounting for a quarter of global sales, and Hershey's leadership position in U.S. chocolate has helped it achieve double the profit margin of Cadbury.
The trust, which controls 78 percent of Hershey votes, pushed the management to put the company up for sale in 2002, only to pull back later and cancel the deal in the face of intense public pressure from community groups and elected officials.
Back then, Cadbury had combined with Nestle to plan a Hershey break-up deal before the sale collapsed.
But recently the trust has voiced its displeasure with Hershey's results amid signs it might be taking a more pragmatic approach.
If Hershey did again consider a deal, Cadbury could face competition from Wm. Wrigley Jr Co, which also mounted a bid back in 2002 to combine Wrigley's No 1 spot in U.S. gum with Hershey's No 1 position in U.S. chocolate and candy.
But if Cadbury can not hammer out a Hershey deal, it might face a bid itself from the likes of Kraft Foods Inc, Wrigley, or even Hershey, with some analysts pointing to a possible break-up bid for Cadbury, with Hershey taking Cadbury's chocolate and Nestle its gum.
Such a deal would avoid any anti-trust problems, with the maker of Hershey Kisses and Reese's peanut butter cups getting international growth, while Nestle, the world biggest food group, would see a boost for its sluggish confectionery arm.
Many doubt that a single bid for Cadbury is likely, as Hershey could not afford all of it, Wrigley would have to sell off Cadbury's key gum business, while some say Kraft is in no hurry to expand its European Suchard chocolate unit, especially after buying Danone's biscuits unit last year.
Cadbury issued its first-quarter trading update on Friday saying its confectionery revenues rose 7 percent, driven by double-digit percentage growth in chewing gum and emerging markets, and reiterated it expected "meaningful" progression in its operating margin from the 9.8 percent it achieved in 2007.
"It seems to us that Cadbury is currently seeking strong organic growth, rather than aggressive margin expansion, in order to look attractive for Hershey, which is looking to expand internationally," said Numis's Kellett.
The largest U.S. chocolate maker, based in Pennsylvania, is still going through hard times, with the trust orchestrating a sweeping overhaul of its directors after poor results and its market share falling prey to privately owned Mars. It has also warned that its 2008 earnings are expected to fall.
Last October, Chairman and Chief Executive Richard Lenny unexpectedly left the group amid reports of differences with the trust, as Hershey's management admitted it lacked the products to capitalise on the growing trend for premium and dark chocolate.
If Cadbury does not make progress towards a deal with Hershey, then analysts say it is difficult to identify confectionery acquisitions, given that so many potential targets are tightly held family-owned businesses such as Italian groups Ferrero and Perfetti van Mello, Latin American company Accor and Germany's Haribo.