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Joint Ventures in Food: Tasty Opportunities (12 pages) Freeborn

Food Processing Magazine’s Annual Manufacturing Trends Survey 2013: Labor, not Energy, the Concern for 2013 (12 pages) Grant Thornton Healthcare Reform: Impact of the Food Industry (9 pages) The Horton Group

Key Buy- and Sell-side Considerations for Food and Beverage M&A Activity (5 pages) McGladrey The Economic Impact of Michigan’s Food and Agriculture System (13 pages) Michigan State University (supplied by Miller Canfield) Innovation Update 2013: Food & Beverage (16 pages) Plante Moran

Industry Surveys: Food & Nonalcoholic Beverages (64 pages) Standard & Poor’s

Food & Beverage: Profitable Growth Possible Despite Disastrous Droughts (4 pages) TBM Consulting Group Food Safety: A Catalyst for Food and Agribusiness M&A? (4 pages) Variant Capital Advisors

Online Folder of All 2013 Feasting on Opportunities Whitepapers (139 pages)

Joint Ventures in Food: Tasty Opportunities by Brian A. Smith, Partner

A FREEBORN & PETERS FOOD INDUSTRY TEAM WHITE PAPER

ABOUT THIS WHITE PAPER:

A joint venture can be a powerful means for food companies to reduce costs, increase revenues and share risk. But, if not structured properly, a joint venture can easily fail to fulfill the objectives of those involved. This White Paper examines why companies might choose to form a joint venture and explains the many available alternative forms. It also describes specific steps often used to maximize the likelihood of success.

om Dowling had been a long-time client of mine but when he came to my office the other day, he had a different look on his face. I knew he had something weighty on his mind but wasn’t sure quite how to ask him about it. I didn’t have to. When he sat down, he started talking right away. “Brian, you know we’ve been having a great run with the company and you’ve been a great help along the way. But now I feel we may have tapped out our growth and frankly I’m concerned. I’ve spent the last 25 years growing the business and now I’m thinking maybe we’ve gone as far as we can.” Tom paused and looked out the window. “Brian, can you help me brainstorm on this one?” I nodded. Tom’s company Dowling Foods specialized in botanical extracts and specialty food ingredients, and had recently opened several new facilities, which had been no small feat logistically or legally. When Tom began the company nearly 30 years ago, it had been a small specialty ingredients supplier. Both its product lines and revenues had grown incrementally. With the national distribution network in place, Dowling Foods was growing rapidly. But that was exactly Tom’s concern: Where would its future growth come from? Should the company look toward new acquisitions or did it make more sense to seek out additional capital?

“A joint venture is a good way to partner without having to fully commit or merge. However, more joint ventures fail than you think - not because of bad products - but because people don’t set their expectations at the start.”

As a corporate-transactional lawyer with a deep background in tax, I knew that Tom’s concerns were common. Business owners and executives struggle with the most effective ways to keep their organizations relevant and growing. When a business owner meets with his or her lawyer, there is a temptation to simply provide a laundry list of growth ideas and opportunities rather than explore what was really driving concerns. Knowing Tom, I knew that he would welcome some ideas to move our discussion along. “Tom, I can appreciate where you are coming from. We’ve explored a number of ideas over the years. Are you thinking we should go over some of those?” I inquired. “That might just help,” he said and my hunch was confirmed. “Well, some of the things we’ve discussed in the past include opening more locations and taking a look into franchising your business. We’ve also taken a look at licensing your products, expanding into other markets and of course, strategic partnerships, or what are commonly called joint ventures.” I made the mistake of taking a breath and that’s when Tom interrupted. “Yes, yes that’s what we talked about. Let’s get back to that idea on joint ventures or partnerships or whatever you called it. It’s what the company needs to do,” Tom said with such force that I knew he had now found his answer. “With the success we’ve had in our products, I know we can expand our offerings to other countries. The question is how and I think a joint venture is the way to go,” Tom continued. “Well, Tom, you are savvy enough to know that a joint venture is a good way to partner without having to fully commit, or merge. It might be just the thing to explore,” I added, knowing that Tom had already made up his mind and likely had several potential partners in mind. “Just remember, my job is to keep you focused on the details like preparation. More joint ventures fail than you think – not because of bad products – but because people don’t set their expectations at the start.”

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As much as Tom wanted to move forward, I took the time to talk with him about preparation and expectations. He did have several joint venture partners in mind – companies and people he had informal relationships with for many years and who might, in fact, be good starting points. When either looking for or confirming the right joint venture partner, there is no substitute for taking your time. After years of helping businesses enter into joint ventures, I’ve learned that the process for selecting the right partner includes four important considerations: 1. Screen – thorough screening of prospective partners – your initial “right partner” might not check out when an analysis is complete. 2. Short List – create a set of prospective partners and create a priority ranking. 3. Credential Check – even though many business people think they “know” someone, credential checking and references can help seal the deal or change someone’s mind. 4. Deal Structure – there are any number of ways to set up a joint venture (see page 7) and it’s important to know the needs/wants/desires of the potential partner so the right approach can be put in place. Based on our discussion, Tom targeted Canada as his preferred initial area of expansion and also immediately rejected two potential joint venture partners. “I think they have credit problems and we need a company partner with the same values and stability as us,” he said, adding, “You were right to talk me through this process of choosing a partner. It’s helping me clarify who would be ideal for us.”

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I could tell Tom was thinking now. “Brian, I know there are a variety of advantages to having a strategic partner. At our stage, something like this is attractive because it allows us to explore growth relatively quickly and with a lower level of risk than a merge or acquisition,” he said. “You’re right, Tom. A joint venture also can be a way to achieve economies of scale. Much like an acquisition, the joint venture parties can eliminate duplicative capital and labor to contribute to the overall profitability of operations.” Tom sighed. “There you go. Talking like a lawyer again. But I guess that’s why I hired you.” We both smiled. “I like all the advantages to the joint venture but I do think we should talk a little bit about the drawbacks. I know. I know. You can’t believe I’m the one asking about downsides, huh?” Tom said slyly. Now it was my turn to smile. I had wanted to review the drawbacks but knew I had to wait for the right opening. “Tom, you are an astute businessman. If you don’t know the downsides, then you aren’t really going into a joint venture with your eyes open,” I said.

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Again, I took the time with Tom to talk about the reasons why Dowling Foods might not want to enter into a joint venture. I didn’t think Tom would be dissuaded by our discussion. In fact, I knew he wanted to move forward; he just had to do some serious thinking about the right strategic partner. • Loss of control. Food companies entering into a joint venture must be willing to live with some level of reduction of the control over the operations of the joint venture. The level of control allocated among the parties is various, flexible and the subject of important negotiations.

•

Providing a “peek”. Companies that enter into joint ventures with others in their own industry may be unwittingly providing an adversary with valuable information as to its finances, operations or culture. This “free peek” could come back to haunt the company later.

•

Limitation of options. Joint venture partners will generally negotiate to prevent each other from competing with the joint venture. In ways that were not anticipated when the joint venture was consummated, these provisions could provide limitations on a joint venturer’s ability to expand outside of the joint venture.

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Profit Sharing. Just because a joint venture is profitable does not necessarily mean that it was more profitable than one party having “gone it alone.” The advantages of joint ventures come with the price of having to share some level of margin with the joint venture partner.

• Accountability. Certain companies may have difficulties in reporting what it once viewed as confidential information with its joint venture partner. Your Future Is Our Purpose www.freeborn.com

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Employee focus and loyalty. Often, a joint venture partners’ contributions to a joint venture include the commitment of employees to the joint venture. Irrespective of whether the joint venture is ultimately successful, an employee could find himself switching loyalties from his historic employer to the joint venture and, perhaps ultimately, to the other partner.

•

Hidden Agendas. At the heart of a joint venture relationship is a level of trust. However, joint venture parties are still independent companies, so they often do not disclose their most important goals with the joint venture.

•

Cultural Differences. While it may not be apparent in the consummation of the joint venture, the parties’ cultural differences (both from a geographic and business practices sense) may become a significant obstacle to a successful joint venture. Given Tom’s desire to joint venture with a Canadian company, I didn’t think there would be much of a problem here but I raised the issue nevertheless.

Our meeting was going long and I could see that Tom was becoming jumpy. “Tom, we still have a lot to discuss. We should talk about capital contributions, issues of control, tax consequences and a few other things. How are you holding up?” I asked. “Well, I’m sort of at my meeting limit, Brian. Believe it or not, I do want to discuss all these things but only after we get closer on our joint venture partner. I need to talk internally to my management team as well and get their feedback,” Tom said. “We’re at a preliminary stage.” I agreed. “Tom, how about we schedule another meeting after you’ve spoken to your team. You can let me know if there is any value to me attending that meeting.” “There might be. Let me mull that over. In the interim, can you send me a summary of our meeting today, as well as a list of the considerations we need to go over should this deal get off the ground?” I smiled. So did Tom. “Of course,” I said. More than likely, Tom and I were going to move ahead and get his growth initiative off the ground. There was a lot of work to do.

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Structuring the Deal: What Functions Best for Food “Joint venture” can mean many things. But the structure of the deal is one of the most essential elements of doing it right. The needs of the parties will help identify what is best for everyone, such as: A contractual relationship not constituting a separate legal entity. Some joint ventures may take the simple form of a revenue sharing agreement, a lease, a supply agreement or some other agreement not constituting an actual legal entity. Often these structures are best for simple ventures with a very limited purpose and short duration. One potential drawback is that, in certain jurisdictions, depending on the extent of the parties’ relationship, a court could impose partnership duties on the parties, despite the parties exclaiming any partnership relationship. A general partnership. The parties may agree to create an unincorporated association to operate a business as co-owners. One advantage of this approach, in the United States, is that no governmental filing is required for a general partnership. However, unlike some of the other legal entities described below, the partners of a general partnership are not afforded the luxury of limited liability. A limited partnership. A limited partnership is a partnership with at least one limited partner and one general partner. A limited partnership is formed by filing a certificate of limited partnership with the appropriate governmental agency. While the general partner of a limited partnership is liable to creditors of the partnership, the limited partners are not. The use of limited partnerships have given way to the newer, but more flexible limited liability company (see below) for ventures where the parties and the operations are solely in the United States. However, foreign countries’ tax treatment of U.S. limited partnerships may be more beneficial or certain than that of limited liability companies. As a result, limited partnerships are still relevant in the international context. A limited liability company. For the last decade or so, the most common legal entity in the United States for forming a joint venture is a limited liability company (“LLC”). An LLC is an unincorporated organization formed by filing a certificate of formation or articles of organization under a state limited liability company act. None of the members of an LLC is liable to a third party for the obligations of the LLC solely by reason of being a member. The true advantage of an LLC in the joint venture context is its flexibility. State laws generally permit joint venturers to agree on whatever provisions they desire within the context of an LLC governing document (i.e., the operating agreement.)

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A corporation. In some circumstances, the parties may create a separate corporation to own and operate the joint venture. A corporation, owned by its stockholders and managed by its board of directors, is a concept that is familiar to businesses in even the least developed areas of the world. As a result, forming a corporation may be the path of least resistance when forming a joint venture with an international partner who is relatively inexperienced in dealing with U.S. legal entities. Another entity created under a non-U.S. jurisdiction. In situations where the joint venture will operate primarily in a foreign jurisdiction, it may be prudent that the joint venture vehicle itself be an entity created in that foreign jurisdiction. Alternatively, joint venturers often create the joint venture vehicle in the U. S. (through, for example, an LLC), which in turn owns 100% of a foreign entity that houses the substantive operations of the venture. In addition to the legal entity (or lack thereof) that will form the basis for the parties’ arrangement, it may be advantageous to create additional entities to serve specific tax or liability protection purposes. Furthermore, often a joint venture entity will enter into one or more agreements with one of its joint venture members, such as leases, supply agreements, intellectual property licenses and product purchase agreements. The existence of these separate agreements should be considered part of the overall “structure” as much as the creation of separate legal entities. Often, a joint venture arrangement will contain a master “joint venture formation agreement” or other document that ties all of the entity formation and separate agreements together.

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Now that you want to go joint venture... 1.

What are the joint venture’s capital needs? Depending on the joint venture’s purpose, there may be needs to contribute various forms of capital to it, from cash to equipment, real property to expertise. The parties need to determine their initial capital contributions and then think about issues such as future capital calls. Envisioning these capital needs at the outset helps keep everyone’s expectations in line.

Who controls the joint venture? The parties to a joint venture need to decide who will have the power to manage the venture. Often, they will agree to a board of directors or similar body consisting of an equal number of members from each side. They also need to discuss the venture’s day-to-day operational structure and management. How and when will the joint venture make profit distributions?

Are there any antitrust impediments? Antitrust concerns are threshold issues, particularly if the parties are or could be competitors. Even if no governmental clearance is required, the parties must determine whether the joint venture or its activities will be considered unlawful under antitrust law.

4. What are the joint venture’s tax consequences? In almost every situation, the tax consequences are various and fact intensive and may include U.S. and foreign income taxes, U.S. state and local taxes (including sales and use taxes), property taxes, excise taxes on certain products (most notably alcoholic beverages) and a variety of non-U.S. taxes, such as value-added taxes (VAT). 5.

What are my exit strategies? Perhaps the most important joint venture decision involves the means upon which it will terminate. For example, joint ventures often terminate at a certain point in time but are subject to automatic or optional renewal periods. The parties can include clauses to permit termination with advance notice, if a breach occurs, if a government or regulatory action frustrates the venture’s purpose, or if the proverbial “act of God” occurs.

If the joint venture doesn’t work out, how are disputes measured and resolved? In addition to this important question, the parties should discuss damages and how they would be measured and assessed.

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Seasoned Companies Select Joint Ventures

Kohinoor

FOODS LIMITED •

Leveraging a strong brand by distributing products in a new market. McCormick & Company, Inc., a leading manufacturer, marketer and distributor of spices, seasonings, specialty foods and flavors, and Kohinoor Foods Ltd., India, one of the leading manufacturers and marketers of Basmati rice, entered into a joint venture to market and sell basmati rice and other food products in India. The joint venture was intended to leverage McCormick’s broad product line with Kohinoor’s specific extensive distribution network in the Indian retail market.

YANTANG Company

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Taking advantage of foreign manufacturing capabilities and efficiencies. Using economies of scale and efficiencies through foreign manufacturing in the food industry is hardly a new trend. As early as 1984, H.J. Heinz Company set up joint venture enterprises in Guangdong, China with the Yantang Company to produce baby cereals for export.

Using and sharing excess manufacturing capacity. In October of 2010, Jack Link’s Beef Jerky, the #1 meat snack in the U. S. and fastest growing meat snack manufacturer worldwide, announced a joint venture with JBS, S.A., the world’s largest protein producer, to jointly produce beef jerky in two previously underutilized plants owned by JBS in São Paulo, Brazil.

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Combining purchasing power to source and purchase raw materials. In recent years, some of the largest U.S. and international food chains, food service companies and private label distributors have formed international buying consortia to purchase imported private label food products for the account of their members/partners.

MATSUTANI •

Monetizing a break-through in manufacturing technology to provide an advantage to owners of relevant recipes. In 2005, food production giant Archer Daniels Midland Company (ADM) and Matsutani Chemical Industry Co., a Japanese producer of specialty food starches and maltodextrins entered into a joint venture to produce, sell and market the dietary soluble fiber Fibersol-2. The food ingredient was originally developed by Matsutani. The joint venture leverages ADM’s global presence for the production, sales and distribution functions.

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Using a robust research department to further develop a product first developed by a potential partner. Country Life Vitamins, a family owned, New York-based nutritional products manufacturer, formed a joint venture agreement with Kikkoman, a large Japanese-based multinational food conglomerate that manufactures food products, including soy sauce; food seasoning and flavoring; mirin; shōchū; and sake, juice and other beverages; pharmaceuticals; and restaurant management services. The joint venture was created to achieve sales growth to Country Life’s network of U.S.-based health food stores by using Kikkoman’s research and development capabilities.

ABOUT THE AUTHOR

Brian A. Smith Partner Chicago Office (312) 360-6472 bsmith@freeborn.com

Brian Smith is a Partner in the Corporate Practice Group and a member of the Food Industry Team. Brain counsels clients on issues relating to domestic and cross-border joint venture relationships. His practice focuses on corporate-transactional matters, including joint ventures, fund formation, private equity and mergers & acquisitions. Brian counsels clients on the most effective ways to grow their business using the financial, management control, tax, procedural and other issues involved in structuring and negotiating joint venture arrangements, fund agreements, operating agreements, purchase and sale agreements, and other business relationships. Brianâ&#x20AC;&#x2122;s initiation to joint ventures came by way of his extensive tax experience â&#x20AC;&#x201C; before entering private practice, Brian was an attorney with the Office of Chief Counsel for the Internal Revenue Service, where he tried cases on behalf of the federal government. He frequently writes and speaks on matters relating to business and tax issues faced by joint venture parties.

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Freeborn & Peters offers clients the unique combination of business insight and legal acumen to address the complex challenges facing the

The Freeborn & Peters Food Industry Team

food industry.

The Team’s partners bring many years of experience, gained at multiple points in the industry and across different legal disciplines, including regulation, litigation, corporate law and government affairs.

America’s food industry faces many challenges: a rapidly modernizing food safety regime; a complex network of suppliers and buyers with many risks and potential liabilities; stagnant domestic demand and intense price competition. Our Food Industry Team helps food companies address these challenges. It also guides them as they build towards a better future: protecting investments in brands, innovation and facilities; structuring profitable ventures and M&A transactions; securing new financing; and taking advantage of foreign market opportunities.

We combine legal know-how with business insight derived from careful attention to clients’ needs and an ongoing focus on the food industry’s specific opportunities and challenges.

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ABOUT FREEBORN & PETERS LLP Freeborn & Peters LLP is a full-service law firm headquartered in Chicago, with international capabilities. Freeborn is always looking ahead and seeking to find better ways to serve its clients. It takes a proactive approach to ensure its clients are more informed, prepared and able to achieve greater success – not just now, but also in the future. While Freeborn serves clients across a broad range of sectors, it has also pioneered an interdisciplinary approach that serves the specific needs of targeted industries, including food, transportation, and insurance and reinsurance. Freeborn is a firm that genuinely lives up to its core values of integrity, caring, effectiveness, teamwork and commitment, and embodies them through high standards of client service and responsive action. Its lawyers build close and lasting relationships with clients and are driven to help them achieve their legal and business objectives. Call us at (312) 360-6000 to discuss your specific needs. For more information visit: www.freeborn.com

Disclaimer: This publication is made available for educational purposes only, as well as to provide general information about the law, not specific legal advice. It does not establish an attorney/client relationship between you and Freeborn & Peters LLP, and should not be used as a substitute for competent legal advice from a licensed professional in your state. © 2012-2013 Freeborn & Peters LLP. All rights reserved. Permission is granted to copy and forward all articles and text as long as proper attribution to Freeborn & Peters LLP is provided and this copyright statement is reproduced.

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FOOD PROCESSING MAGAZINE’S ANNUAL MANUFACTURING TRENDS SURVEY 2013

Labor, not Energy, the Concern in 2013

Table of contents 1 Cover story 3 Dealing with uncertainty in 2013 4 Protecting your data in a mobile world 7 Managing ingredient supply and pricing with predictive analytics 8 Tax and strategic considerations you need to know about health care reform

2 Labor, not Energy, the Concern in 2013

Cover story

While economic uncertainty remains, respondents expect more growth while continuing to emphasize food safety. David Phillips, Plant Operations Editor, Food Processing Magazine

Labor issues are of greater concern to food manufacturers as they enter 2013 – but not as important as cost control and food safety – while worries about energy cost escalation have all but disappeared (that was a surprise). Manufacturers are a bit less optimistic than they were at this time last year (or in the past three years, for that matter). Yet more plant operations executives foresee production increases of 20 percent or more and additions to their workforces.

Figure 1: Manufacturing priorities for 2013*

First-place votes

Rating avg.

Rating avg. last year

Food safety

59%

8.2

Cost control

27%

7.4

7.6

Labor

11%

6.3

Inspections/certifications

10%

5.9

6.3

Sourcing & materials

10%

6.4

6.7

Automation

5.1

5.5

Water issues

5.1

4.9

Environmental concerns

5.6

5.9

Consolidation challenges

4.4

4.7

Energy concerns

5.7

6.2

*Respondents were able to select more than one answer.

Those are some of the results of FOOD PROCESSING’S 12th annual Manufacturing Trends Survey. Invitations went out in November for the web-based survey. We had 249 total respondents, up from 205 last year.

Labor, not Energy, the Concern in 2013 1

The Food Safety Modernization Act also was a concern for “lack of clarity in what the regulations will require and how some companies are anticipating and reacting to that lack of clarity.” Figure 2: How is your company dealing with the economy?

We’re growing slowly

47.3%

No great changes

29.6%

Staff reductions and/or salary cuts

26.3%

Adding headcount and/or new lines

19.3%

Closing plants/consolidating

12.8%

We’re growing fast

11.9%

Other

10.7%

Outsourcing to U.S. or Canadian contract manufacturers

5.4%

Outsourcing to overseas manufacturers

4.5%

Safety first

Each year the survey asks food processors to rank 10 pre-selected major concerns. As has always been the case, food safety ranks No. 1. This year 59 percent of respondents indicated this was their most important concern, up slightly from 53 percent last year. No surprise really, when one considers the catastrophic results of not prioritizing food safety. In second place for the second year are cost issues, with 27 percent naming it their top concern for the year (down 3 points from last year). What’s more interesting is how our respondents rank the other eight concerns. Last year, inspections and certifications came in third with 21 percent of the vote, but this year that vote fell to 10 percent – apparently most companies earned their Global Food Safety Initiative certificates last year.

2 Labor, not Energy, the Concern in 2013

Instead, labor moved up to third place with 11 percent, about the same as last year. Sourcing and materials also won a 10 percent vote (totals exceed 100 percent because respondents could select more than one top priority). Energy concerns recorded the biggest drop in first-place votes, from seventh place to dead last (10th) in the rankings this year – although it had higher second, third, etc. votes than most other concerns. So using a weighted scoring method, its 5.7 point score was in sixth place, higher than environmental concerns, automation, water issues and consolidation challenges. But still lower than its overall ranking last year. We also asked voters to tell us about major concerns they did not find in our top 10 list. Among the responses were issues such as accurate forecasting for expansion, commodity price volatility, availability of raw materials, transportation costs, matching capacity with demand and implementing lean manufacturing. The Food Safety Modernization Act also was a concern for “lack of clarity in what the regulations will require and how some companies are anticipating and reacting to that lack of clarity.” Another food processor pointed to the weather: “Our biggest concern now is the effect of the Midwest drought and how that will affect supply and price of our ingredients.” A long way to go?

We reworded our question about dealing with the economy (Figure 2). Last year we asked only if you were growing (45 percent said yes). This year, we split that response and found 12 percent “growing fast” and another 47 percent “growing slowly” – that adds up to 59 percent growing at least some. However, approximately 26 percent were turning to staff reductions and salary cuts to deal with the lingering difficulties, and more than 12 percent indicated plant closings and consolidations. About 10 percent were outsourcing to save money.

Dealing with uncertainty in 2013 Dexter Manning, Partner, National Food and Beverage Practice Leader, Grant Thornton LLP

The results are in for the 2013 Food Manufacturing Trends Survey and it’s no surprise that food safety is still the number one concern among food manufacturers, followed closely by cost control. In fact, 72% of respondents to the survey indicated that their company had implemented new food safety processes in 2012, likely in response to the looming requirements of the Food Safety Modernization Act (FSMA). Cost control, however, may prove harder to tackle. Continued volatility of ingredient prices, changing weather patterns and still more governmental regulations, such as changes to employee benefit plans based on the Affordable Care Act, and new or impending income tax laws, continue to drive costs upward. Manufacturers are awash in uncertainties heading into 2013, yet still are managing to wade through them. Uncertainty is the elephant in the room — whether about FSMA, the financial toll from health care reform provisions, commodity price volatility, severe weather or any number of other concerns. The 2012 drought in the Midwest wreaked havoc on commodity prices and an already volatile market for ingredients.

Other issues on their minds include changing demographics in the U.S., soaring demand for raw materials in

emerging markets, rising energy prices and the uncertain state of the economy at home and abroad. Most, if not all, of these uncertainties have a direct impact on manufacturers’ bottom-line profitability. Focusing on core competencies

The net result is that prudent leaders are exercising more caution in 2013. While most of the respondents expressed optimism about 2013 (60%), slightly fewer were optimistic than the prior year (63%). This cautious optimism translates into a more strategic approach to business. While a focus on cost control and lean processes have remained par for the course since the beginning of the last recession, there is little excess left to trim. Consequently, many companies are taking a hard look at their businesses’ core competencies and shedding unrelated or nonstrategic business units as part of their cost-control plans. Embracing mobile technologies

Historically, technology has contributed to the demise of some businesses and the success of others. Expect the same for 2013 and beyond. Consumers continue to embrace technologyenhanced shopping, and some food and beverage manufacturers have caught on. A growing number of consumers are using smartphones and tablets for price comparisons, coupons, recipes, to review quick response (QR) codes, food blogs and, an emerging trend, to make their payments. Some smartphones network with kitchen appliances to allow consumers to do everything from

turning on these appliances to checking the contents of their refrigerators. Easy to use apps are helping people eat healthier, simplify meal planning, and make in-store decisions about the food they buy. Food and beverage manufacturers need to have a mobile strategy, and it needs to address the new risks that come with the territory. Connecting with customers via social media

Food and beverage manufacturers are using social media in new and creative ways to create a dialogue with their customers. The information gleaned from these customer interactions, in turn, helps manufacturers create and market innovative products that satisfy the ever-changing market. But social media, too, is not without its risks, and manufacturers are becoming more savvy about implementing controls and policies for their social media efforts. Amid the uncertainties, one thing is certain. If manufacturers plan to continue to thrive in this environment, they must become more flexible and dynamic to adjust to the rising uncertainties in the economy and marketplace.

Historically, technology has contributed to the demise of some businesses and the success of others. Expect the same for 2013 and beyond.

Labor, not Energy, the Concern in 2013 3

Protecting your data in a mobile world Anthony J. Hernandez, Principal, Business Advisory Services, IT Strategy and Risk Management, Grant Thornton LLP

Mobile devices are taking over the planet. According to a 2013 Cisco report, there will be more mobile devices than the seven billion people who inhabit the earth by year-end.1 What’s more, the report predicts there will be a staggering 10 billion mobile devices by 2017.2 Indeed, an entire global generation — Millennials — communicates primarily through a combination of mobile devices and social media. In keeping with the times, 71% of companies are considering custom mobile apps, according to Symantec’s 2012 State of Mobility Survey. And one in three enterprises is actively rolling out a mobile app or already has done so.3 Many forward-thinking food manufacturers are on top of this trend and already interacting with customers via mobile apps which include videos, location-aware coupons, promotional announcements and loyalty programs. Moreover, a growing number of food manufacturers are turning to enterpriseconnected mobile devices to provide insight into business operations, boost productivity and achieve new efficiencies. Enterprise mobile apps offer the ability to track real-time inventory, gain visibility into factory-floor operations, and monitor sales and operations performance. A Motorola survey of mobile technologies found that manufacturers saved a daily average of 42 minutes per employee by using mobile apps.4

Devices breed data risks

Enterprise mobile security, however, is a different story. Many companies are paying insufficient attention to this critical business factor. A Ponemon Institute survey showed that 51% of surveyed companies experienced a data breach due to insecure mobile devices.5 With the explosive increase in corporate mobile device use, there is a commensurate increase in sensitive data residing in employee smartphones, tablets, USB drives and other apparatuses. In addition to e-mail, voicemail, location information and documents, there may be credentials to access enterprise applications and other confidential information on devices.

Yet, many employees aren’t accustomed to protecting their devices. Unfortunately, lost or stolen smart phones and tablets are not unusual. Poor risk awareness

Adding to the problem is the fact that most consumers and enterprises do not take the time to regularly patch or update their smartphones and tablets, increasing their risk exposure. Cyber attacks have become more frequent and sophisticated, coming from diverse sources such as SMS, Wi-Fi, Bluetooth, infra-red, USB, Web browsers and mobile platforms.

For example, people need to beware of free charging kiosks at airports that enable users to plug a USB cable into their mobile devices. These unknown tools can easily be configured to read or remove data from devices and even upload viruses or malware. To bring or not to bring

Every manufacturer needs to address the bring-your-own-device (BYOD) to work trend, which can be good for productivity but add complexity to data security. Managing a mix of mobile device platforms — Blackberry, iPhone and Android, among others — is more complicated for IT, and users often inadvertently circumvent security policies. If employers decide to adopt a BYOD approach, they need to establish clear policies and implement IT security controls to protect their data and their network. As more food manufacturers turn to enterprise mobile technologies to connect with customers, achieve efficiencies and gain visibility into operations, they need to continually assess the security implications of their technology and mitigate risks accordingly. An effective enterprise solution will address a range of device types, integrate seamlessly with manufacturers’ existing systems, and — most importantly — keep sensitive data safe and sound.

“ Cisco Visual Networking Index: Global Mobile Data Traffic Forecast Update, 2012–2017,” Feb. 6, 2013. www.cisco.com/en/US/solutions/collateral/ns341/ns525/ns537/ns705/ns827/white_paper_c11-520862.html 2 Ibid. 3 “2012 State of Mobility Survey,” Symantec, 2012. www.symantec.com/about/news/resources/press_kits/detail.jsp?pkid=state-of-mobility-survey 4 Lane, Brian. “Manufacturing goes mobile,” http://news.thomasnet.com/IMT/2012/07/24/manufacturing-goes-mobile/ 5 “Global Study on Mobility Risks,” Ponemon Institute, Feb. 2012. www.ponemon.org/local/upload/file/Websense_Mobility_US_Final.pdf 1

4 Labor, not Energy, the Concern in 2013

Figure 3: In 2013, does your facility plan to?* M aintain staffing level 41% A dd to the workforce 36.8% P assively reduce workforce (i.e. through attrition) 9.6% D on’t know 7.5% A ctively reduce workforce 5.0%

Figure 4: Do you anticipate your plant’s production in 2013 to:*

When asked “How do you feel going into 2013?” only 60 percent expressed optimism, down from 63 percent last year and 66 percent in both 2011 and 2010.

I ncrease 20% or more 18.5% I ncrease 10–19% 21.8% I ncrease 2–9% 31.7% S tay about the same 20.2% D ecrease 2–9% 3.7% D ecrease 10–19% 1.7% D ecrease 20% or more 2.5%

Figure 5: For 2013, is your whole company planning to:* S tay the same 46.9% E xpand production/ number of manufacturing plants 32.5% C onsolidate production/ number of manufacturing plants 11.9% D on’t know 8.6%

Figure 6: How do you feel going into 2013?* O ptimistic 60.1% N eutral/I’m not sure 25.1% P essimistic 14.8%

*Responses may not equal 100% due to rounding.

Looking forward with Figure 3, most of those who took the survey said they expect to add to their employee ranks (nearly 37 percent) or maintain staff levels (41 percent), compared to around 15 percent who plan to further reduce staffing either actively or passively. That compares favorably with last year, when 18 percent were bracing for staff reductions and just 28 percent had planned on new hires. Asked about plant production forecasts for 2013 (Figure 4), 19 percent foresee increases of 20 percent or more, up significantly from 11 percent last year and 16 percent the year before. Altogether, 72 percent expect at least some increase in production at their own facility this year – within a percentage point of last year – while only 7.9 percent are planning for a decrease. When asked about the production outlook for their entire company (Figure 5), 32.5 percent of respondents expect their company to expand the number of manufacturing facilities this year, up significantly from 23 percent the year prior. Just 12 percent (roughly matching last year’s number) said they expect their companies to consolidate this year. While these numbers are encouraging, respondents were cautious about their optimism (Figure 6). When asked “How do you feel going into 2013?” only 60 percent expressed optimism, down from 63 percent last year and 66 percent in both 2011 and 2010.

As for salaries, just 4 percent of those surveyed anticipate a decrease, while 41 percent expect salaries to increase. A year ago, a similar number planned on payroll increases but a higher percentage (5.6 percent) expected to trim salaries. Capital spending may be in for a drop in 2013. Thirty-five percent of respondents said they will spend more this year than they did in 2012, whereas 47 percent expected to spend more last year at this time. This year 10 percent have trimmed their CapEx budget by some measure. Also, 35 percent report they have delayed capital spending projects in the past year due to the economy. That is up from 32 percent a year ago, but not as drastic as 2011, when a full 45 percent hit the brakes on capital projects. This year’s respondents listed a variety of project types they hope to tackle in 2013, including warehouses, production and packaging expansions, a new plant in Kentucky, updated manufacturing software and adding automation in warehousing, production and throughout the plant.

Labor, not Energy, the Concern in 2013 5

Figure 7: Will you implement new food safety measures in 2013? Y es 69.1% D onâ&#x20AC;&#x2122;t know 16.9% N o 14.0%

Figure 8: What portion of your plant has been automated?

Production sections

48.6%

Packaging sections

34.9%

All or most of the plant

17.4%

None

15.8%

Warehousing

10.4%

Entire production line

9.1%

Maintenance, repair & operations

5.0%

Other

5.0%

*Respondents were able to select more than one answer.

Nearly 16 percent of survey respondents said they still have no automation in their food plants

Knowing that food safety is the top priority among food companies, we also asked some questions about what steps processors are taking to protect against incidents and to verify compliance with food safety regulations. Of those surveyed, 72 percent indicated they implemented new food safety measures in 2012. That reflects a slight up-tick in implementation compared to the year prior when 70 percent said they had taken food safety measures in 2011. Nearly 70 percent say they will launch new food safety initiatives this year, up 2 points from last year (Figure 7). Employee training and third-party certification remain the two top steps food processors are taking to improve food safety. Those two also topped the list in 2012.

Respondents were allowed to list multiple approaches, and 69 percent mentioned employee training this year, while 47 percent planned for third-party certification. HACCP plans are in use or in the works for 39 percent of surveytakers this year, compared to 46 percent of those who answered the question last year â&#x20AC;&#x201C; thatâ&#x20AC;&#x2122;s kind of odd.

6 Labor, not Energy, the Concern in 2013

Speaking of certification, we asked participants to name which certifications they were involved with. The top answer remains Safe Quality Food, which was noted by 49 percent of respondents this year, up from 40 percent in the 2012 survey. The British Retail Consortium program was second this year with 22 percent, 1 point down from last year. Automation has changed food manufacturing substantially in recent years. This year, 17.4 percent said the entire plant is automated, nearly 49 percent said production is highly automated (less than the 54 percent answering that way in the year prior) and 35 percent indicated their packaging areas were stocked with robotics. Nearly 16 percent of survey respondents said they still have no automation in their food plants (Figure 8).

Managing ingredient supply and pricing with predictive analytics Steve Lyman, Managing Director, Business Advisory Services, Grant Thornton LLP

Global increases and volatility in ingredient pricing are wreaking havoc on the profit margins of food manufacturers. Unfortunately, processors may be looking at deepening distress as agricultural turmoil from droughts, fires, floods, freezes and blights is driving prices sharply upward. Adding to the pain are growing speculation on commodities, surging populations and increasing per capita consumption in such countries as China and India, as well as rising fuel prices.

Widespread concerns have turned some manufacturers — notably, a number of the bigger players — to predictive analytics. Described by some as forecasting on steroids, predictive analytics uses data to predict the likelihood of future events and help manufacturers plan for them. Companies are using the tool to understand how a number of factors (e.g., weather, natural disasters, legal and regulatory impacts, civil unrest) can impact ingredient supply availability and costs.

The data can help identify effective mitigation strategies to address possible disruptive events. For example, a manufacturer might seek different suppliers if civil unrest is threatening a particular region or develop hedging strategies to manage costs where drought is occurring. In addition, predictive analytics is valuable in forecasting customer trends. It is thought of primarily in terms of customer behavior and revenue growth. But there is significant opportunity on the supply side to better understand cost and supplier behavior, and to give companies better data for leverage with suppliers. Consider the Super Bowl chicken wing shortage of 2013. Drought in the Midwest impacted crop prices, as did the uptick in demand for ethanol — driven in part by the EPA Renewable Fuel Standard. These factors drove up chicken feed prices, which resulted in less farming of chickens and/or higher prices for chicken and wings.6 Prices for whole chickens were 21% higher in December 2012 than a year earlier, according to the U.S. Department of Agriculture’s Livestock, Dairy & Poultry Outlook report.7

The long and short of it is that companies need to understand everything they can about their supply chains: • Who are their suppliers’ suppliers? • Where are they located? • What are the factors that drive their supply and pricing? • What risks are they facing? Too many companies are depending on historical data and trends to manage their business, while not paying enough attention to the future. This is at a time when unpredictable weather, growing demand, increasing and volatile commodity prices, surging fuel costs, and myriad other factors are eroding profits. Fundamental laws of economics are at work. With no relief in sight, food and beverage companies that do not take immediate action will continue to see profit margins shrink.

While larger food processors have been among the first to adopt predictive analytics, all industryrelated companies ultimately will need to do so to remain competitive.

glesias, Matthew, “The Great Chicken Wing Shortage of 2013,” Slate, Feb. 1, 2013. Y www.slate.com/articles/business/moneybox/2013/02/chicken_wing_shortage_drought_ethanol_standards_and_expensive_corn_have.html 7 Ibid. 6

Labor, not Energy, the Concern in 2013 7

Tax and strategic considerations you need to know about health care reform Ken Cameron, Director, Compensation and Benefits, Grant Thornton LLP; and Mark Ritter, Managing Director, Compensation and Benefits, Grant Thornton LLP

According to a study by Market Strategies International, up to 60% of employers in the United States were waiting for the outcome of the 2012 presidential election before preparing to respond to requirements of the Patient Protection and Affordable Care Act (PPACA). Those employers now need to move quickly to manage this new business risk. Even though many of the taxes imposed for noncompliance with the PPACA go into effect in 2014, employers who wait until later in 2013 to respond may risk increased costs of compliance.

This is particularly true for industries that employ seasonal or part-time workers because many of the penalties and taxes are computed by multiplying a tax rate times the number of “full time employees.” Contributing to the confusion is the fact that regulations defining the term are extremely complex and can be difficult to apply to a particular work force. Following are four significant types of fees, taxes and penalties which employers need to know:8

PCOR funding fee This fee is assessed against all health insurers — including self-funded employer health care plans — to fund the Patient-Centered Outcomes Research Institute, which was created by PPACA to perform comparative effectiveness research on medical treatment outcomes. The initial annual fee is $1 per covered life (including employees and their participating dependents) for plan years ending between Oct. 1, 2012, and Sept. 30, 2013. The fee increases to $2 per covered life for plan years ending between Oct. 1, 2013, and Sept. 30, 2014, and is indexed for inflation thereafter. Action: If you have a self-funded health plan, you should prepare to comply with the first filing deadline of July 31, 2013. For fully insured plans, the insurance carrier computes and remits this fee. Increased Medicare taxes on high-income earners Beginning in 2013, individuals who earn more than $200,000 in taxable income ($250,000 where filing jointly) are subject to an increase in their share of the Medicare tax, from 1.45% to 2.35%. While the employer’s matching Medicare tax remains at 1.45%, employers who fail to withhold and remit the employees’ increased Medicare tax may be subject to penalties and interest.

Action: Confirm now that your payroll processing area (or payroll vendor) has updated the payroll system so the correct amount of Medicare tax will be withheld and remitted to the IRS. Transitional reinsurance fee Beginning in 2014, employers must pay a transitional reinsurance fee to help offset the impact of high-cost enrollees who obtain health insurance. This fee will be assessed annually for a three-year period. The fee will be computed based on the number of covered lives (employees and dependents), but the amount per covered life is not yet set for 2014. Action: Take steps during 2013 to ensure that the count of covered lives, as defined under the regulations, can be prepared and submitted in time. This may require programming and other data management steps, so lead time should be allowed. Penalties for insufficient coverage or benefits Effective in 2014, PPACA provides for numerous and complex penalties, applicable to employers in either of the following circumstances: • Not offering a health plan to 95% or more of full-time employees • Offering a plan to 95% or more of full-time employees, but the plan fails an employee affordability test or minimum value test.

To view an outline of the Patient Protection and Affordable Care Act, along with the full text of the law, see www.healthcare.gov/law/full/.

8 Labor, not Energy, the Concern in 2013

54 percent of those surveyed said they are “taking steps in energy conservation.” Energy and green initiatives

These minimum coverage and benefits rules may require significant policy discussions. Action: Establish a formal process as early in 2013 as possible to determine a direction for your health plan. This may involve calculating the cost of a number of scenarios as well as considering non-financial human resources issues such as employee retention and recruiting.

Given the complexities of PPACA, employers need to keep the new health care law top of mind and be cognizant of developments. Work with your tax adviser and employee benefits provider now to learn more about these and other requirements.

Green initiatives, which can help both the bottom line and a company’s reputation with consumers, have been important for some time. Our survey shows that for as much as 82 percent of food manufacturers surveyed, those programs continue to be important heading into 2013. However, 6.6 percent said that in light of the economy, green initiatives are “becoming less important” to them. That’s up from the 5.6 percent who gave that answer in 2012. The number who said the importance of green initiatives was “about the same” also increased from 46 percent going into 2012 to about 53 percent of those surveyed for our 2013 report. Asked what initiatives they are pursuing, food processors had a variety of responses reflecting a range of actions from simple common sense steps to comprehensive programs. They included “increasing use of recycled content materials,” “water reuse in the process” and “motion control lights and sky lights in the warehouse.” One respondent indicated his or her company was

“already on track,” and had “reached goals and (would) continue monitoring towards a zero-landfill facility.” Energy consumption can certainly be considered in concert with other green initiatives, but energy can also be a simple bottom-line issue. When the latter is the case, energy concerns enter and leave the spotlight as prices fluctuate. With energy prices somewhat at a plateau, this year’s respondents put less emphasis on energy consumption than we have seen in the past. When asked “how are you approaching energy management?” (Figure 9) 54 percent of those surveyed said they are “taking steps in energy conservation” but close to 29 percent said it is “not a burning issue right now” – up from 24 percent last year. Nearly twenty-seven percent are conducting energy audits and 22 percent are recycling or redirecting energy throughout the plant. Just over 5 percent of respondents are looking at cogeneration and 10 percent are looking for alternative energy sources (down from 16 percent a year ago); 4 percent are installing solar panels. •

Figure 9: How are you approaching energy management?

Taking steps in energy conservation

54.2%

Not a burning issue right now

28.6%

Conducting energy audits

26.5%

Recycling energy (i.e. through redirection systems)

21.9%

Negotiating with energy providers

12.2%

Looking to energy management consultants

11.3%

Seeking alternate energy sources

10.1%

Looking at co-generation

5.5%

Other

5.0%

Installing solar panels

4.2%

*Totals exceed 100(%) because respondents could select more than one choice.

Labor, not Energy, the Concern in 2013 9

Dexter Manning Partner, National Food and Beverage Practice Leader T 404.475.0061 E dexter.manning@us.gt.com Anthony J. Hernandez Principal, Business Advisory Services, IT Strategy and Risk Management T 215.701.8870 E anthony.hernandez@us.gt.com Steve Lyman Managing Director, Business Advisory Services T 404.475.0070 E steve.lyman@us.gt.com Ken Cameron Director, Compensation and Benefits T 404.704.0136 E ken.cameron@us.gt.com Mark Ritter Managing Director, Compensation and Benefits T 404.704.0114 E mark.ritter@us.gt.com

About Grant Thornton LLPâ&#x20AC;&#x2122;s Food and Beverage Practice Grant Thornton LLP assists domestic and international food and beverage companies as they navigate the complex industry supply chain, as well as the ever-changing marketplace. Our professionals work with a diverse range of businesses â&#x20AC;&#x201D; from multinational food and beverage manufacturers to beverage distributors, grocery stores and restaurants. With vast experience in this sector, we offer guidance on restructuring and reorganization, process improvement, supply chain management, M&A, tax, audit and other matters. Our professionals provide clients with solutions designed to deliver growth and create value for their various stakeholders. The people in the independent firms of Grant Thornton International Ltd provide personalized attention and the highest-quality service to public and private clients in more than 100 countries. Grant Thornton LLP is the U.S. member firm of Grant Thornton International Ltd, one of the six global audit, tax and advisory organizations. Grant Thornton International Ltd and its member firms are not a worldwide partnership, as each member firm is a separate and distinct legal entity. In the United States, visit Grant Thornton LLP at www.GrantThornton.com.

Content in this publication is not intended to answer specific questions or suggest suitability of action in a particular case. For additional information on the issues discussed, consult a Grant Thornton client service partner.

HEALTHCARE REFORM

IMPAC T ON THE FOOD INDUSTRY

ate

Upd t n a t r o p Im

regarding n o i t a m r for info ce See insert Complian m r o f e R e Healthcar July 2nd. n o d e s a le changes re re

ca on Healtht: t n e r r u c ne a Keep r anges onli Reform chortongroup.com/hc h e h .t www

THE IMPACT OF

HEALTHCARE REFORM ON THE FOOD INDUSTRY A SUMMARY OF KEY DATES, NE W REQUIREMENT HIGHLIGHTS

The health care reform law – the Affordable Care Act (ACA) – has many complex requirements for employers and health plans. The following is a high level summary addressing many common questions and highlighting specific components pertinent to the food manufacturing industry.

This executive summary will cover the following: Key Dates New Eligibility Rules Employer Shared Responsibility New Taxes Implications for Small Group Plans

KEY DATES OCTOBER 1, 2013 Employers must provide all new hires and current employees with a written notice about ACA’s health insurance market places which are state-based or federally managed competitive marketplaces where individuals and certain small businesses can purchase health insurance. In general, the notice must: •

• •

•

Inform employees about the existence of the Marketplace and give a description of the services provided; Explain how employees may be eligible for a premium subsidy if the employee meets certain requirements; Inform employees that if they purchase coverage through the Marketplace, they will lose any employer contribution toward the cost of their coverage, and will pay for their coverage with after tax dollars; and Include contact information for the Marketplace and an explanation of appeal rights.

www.thehortongroup.com

Health plans (both insured and self-funded) must provide a Summary of Benefits and Coverage (SBC) to participants and beneficiaries. The SBC is a succinct document that provides simple and consistent information about health plan benefits and coverage in plain language. For insured plans, issuers will provide the SBC to the plan sponsor. The plan sponsor is responsible for making sure that this document is distributed to all eligible employees. For self-insured plans, the sponsor is responsible for drafting the SBC. The SBC also must be provided to newly eligible and special enrollees.

JANUARY 1, 2014 Employer Coverage Requirements. Employers with 50 or more full time equivalent employees will be subject to penalties if they do not provide health coverage to employees that meets minimum levels of coverage or if the coverage they provide is not affordable.

THE IMPACT OF HEALTHCARE REFORM ON THE FOOD INDUSTRY

NEW ELIGIBILIT Y RULES The food manufacturing industry is an industry that could be specifically vulnerable to new eligibility rules. Not only does it mandate that all employees who work, on average, 30 or more hours a week, be eligible for health insurance coverage, ACA also creates a new classification of employee called a “variable hour” employee. An employee is a variable hour employee if, at the point of hiring, it cannot be determined if the employee is reasonably expected to work on average at least 30 hours per week. It allows an employer to defer eligibility for a period of time until it has been determined the hours that the new employee has worked. In order to hire a new employee as a “variable hour” employee, employers must measure the hours these employees work for a period of time. That measurement period can be no shorter than 3 months and no longer than 12. Once the measurement period has been identified and the hours worked are measured, the employer can determine if the employee has met the requirement to attain eligibility. The employee will then come onto the plan (if they choose) but will continually be measured for each successive period going forward to determine if the employee will retain eligibility. Under ACA, certain classes of employees may be treated differently with regards to the benefits that are offered and/or the contribution that is made to those options. Those classes are: 1) Collectively bargained employees and those that are not; 2) Salary versus hourly employees; and 3) By state at which a facility is maintained

SNAPSHOT OF EMPLOYER SPONSORED HEALTH PLANS IN 2014 & BEYOND In a Healthcare Reform conducted in early 2013 over 4,400 respondents provided feedback on how their organizations are changing their employee benefit plans as a result of Healthcare Reform legislation.* WHICH ACTIVE EMPLOYEES ARE OFFERED COVERAGE UNDER YOUR ORGANIZATION’S HEALTH PLANS? 62.4%

63.8%

11.8%

PART-TIME PART-TIME EMPLOYEES EMPLOYEES WORKING > 30 WORKING 30-39 HRS/ WEEK HRS/ WEEK

FULL-TIME EMPLOYEES WORKING 40+ HRS/ WEEK

Many employers are still unaware of how variable employees will impact their org anization. Offering or denying benefits to this categor y of employee may no longer be optional.

“THE FOOD INDUSTRY COULD BE SPECIFICALLY VULNERABLE TO NEW ELIGIBILITY RULES.” www.thehortongroup.com

THE IMPACT OF HEALTHCARE REFORM ON THE FOOD INDUSTRY

EMPLOYER SHARED RESPONSIBILIT Y The ACA imposes different requirements on employers based on whether they qualify as a “large employer” or a “small employer.” A large group employer employs at least 50 full-time employees, or a combination of fulltime and part-time employees that exceeds 50. Small group status is defined as less than 50 full time equivalent employees. Penalties will be imposed on large group employers who do not offer health insurance that meets minimum standards. That penalty equals $2,000 for every full time employee minus the first 30. Penalties also apply to large group employers who offer minimum

insurance but have employers who purchase their coverage through the marketplace and qualify for a subsidy. The two tests that must be met to qualify for a subsidy are: 1) The individual makes less than 400% of the federal poverty level; AND 2) The plan the employer offers is deemed unaffordable in that it exceeds 9.5% of wages earned by the employee based on the lowest cost option for the employee only coverage that is offered. The penalty in this case is $3,000 for every employee that buys coverage and qualifies for a subsidy. The gross amount of this penalty cannot exceed the total amount of the penalty for not offering insurance.

RISING COSTS OF THE CADILLAC In 2018, a 40 percent excise tax will be imposed on the excess benefit on high-cost employer-sponsored health insurance. The annual value limit for purposes of calculating the tax is $10,200 for individuals and $27,500 for other than individual coverage.

Yes No Not Sure N/A

26.5%

NOT VERY LIKELY

25%

UNLIKELY

15.8%

LIKELY

15%

31.5%

DON’T KNOW 15.9%

WHAT IS THE LIKELIHOOD THAT YOUR ORGANIZATION WILL NEED TO REDUCE COVERAGE TO STAY BELOW THESE LEVELS?

HAS YOUR ORGANIZATION TAKEN ANY ACTION RELATED TO THE CADILLAC PLAN TAX?

58%

VERY LIKELY

www.thehortongroup.com

Chart and survey data was provided by Zywave from their 2012 Employers Survey & 2013 Health Care Survey. This survey was anonymous, so responses have not been validated for statistical significance or margin of error. The information contained herein, including its attachments, contains proprietary and confidential information. Any distribution of these materials to third parties is strictly prohibited. © 2013 Zywave, Inc. All rights reserved.

NEW TAXES COMPARATIVE EFFECTIVENESS RESEARCH TAX (CER)

The Affordable Care Act (ACA) created the Patient-Centered Outcomes Research Institute (Institute) to help patients, clinicians, payers and the public make informed health decisions by advancing comparative effectiveness research. The Institute’s research is to be funded, in part, by fees paid by health insurance issuers and sponsors of self-insured health plans. These fees are widely known as Patient-Centered Outcomes Research Institute fees (PCORI fees), although they may also be called PCOR fees or comparative effectiveness research (CER) fees. These CER fees apply for plan years ending on or after Oct. 1, 2012 and before Oct. 1, 2019. The first possible payments will be due on July 31, 2013. For plan years ending before Oct. 1, 2013, the fee is $1 per covered life under the plan. For plan years ending on or after Oct. 1, 2013, and before Oct. 1, 2014, the fee increases to $2 per covered life. For plan years ending on or after Oct. 1, 2014, the fee amount will grow based on increases in the projected per capita amount of National Health Expenditures.

REINSURANCE TAX

ACA established a risk-spreading program, called the transitional reinsurance program, to help stabilize premiums for coverage in the individual market during the first three years of Exchange operation (2014 through 2016) when individuals with higher-cost medical needs gain insurance coverage. ACA requires health insurance issuers and plan sponsors of self-insured group health plans to pay fees to support the reinsurance program. For 2014, HHS proposes a national contribution rate of $63 per year. An issuer’s or plan sponsor’s reinsurance fee would be calculated by multiplying the average number of covered lives (employees and their dependents) during the benefit year for all of the entity’s plans and coverage that must pay contributions, by the national contribution rate for the benefit year.

HEALTH INDUSTRY TAX

The health insurance providers fee applies to all “covered entities,” defined as any entity that provides health insurance for any United States health risk. The fee will be assessed on health insurers’ premium revenue above $25 million. Beginning in 2019, the cost of the fee will increase based on the rate of premium growth. This fee will not apply to plans that are self funded.

CADILLAC TAX

For taxable years beginning in 2018, ACA imposes a 40 percent excise tax on high-cost group health coverage. The Cadillac tax provision taxes the amount, if any, by which the monthly cost of an employee’s applicable employer-sponsored health coverage exceeds the annual limitation ($10,200 annualized single premium and $27,500 annualized family premium).

www.thehortongroup.com

IMPLICATIONS FOR SMALL GROUP PLANS Effective for plan years beginning on or after Jan. 1, 2014, health insurance issuers in the small group market will be generally prohibited from determining premium rates based on health status. Issuers will be able to vary premium rates based only on age, rating area, sex, and tobacco use. This reform, which is often referred to as “community rating,”

does not apply to grandfathered plans nor does it apply to large group plans. Additionally, rates for these plans will no longer be offered on a composite basis but instead a different premium will apply for every individual on the plan – a mechanism called “List Bill”.

PAY OR PLAY DECISION

In 2014, employers with more than 50 employees are required to offer minimal essential health coverage to employees or be subject to a penalty. In an employer survey conducted in early 2013, there are indications that many employers will “play” and continue to offer health coverage to their employees.

HOW LIKELY IS YOUR ORGANIZATION TO CONTINUE OFFERING HEALTH BENEFIT COVERAGE TO YOUR EMPLOYEES ONCE THIS REQUIREMENT KICKS IN?

Retain Employees

73.2%

30.6%

89.9%

54.1%

IF YOU PLAN TO KEEP COVERAGE, WHAT ARE YOUR REASONS FOR DOING SO?

Maintain/increase employee satisfaction

63.0%

Recruit talented new employees

0.2%

Maintain/increase employee productivity

2.2%

31.9%

0.4%

40.0%

12.5%

Avoid paying penalties

18.0%

Maintain tax benefits Required by collective bargaining agreement

8.1%

Don’t know Have already discontinued coverage Will definitely discontinue coverage & pay any applicable penalty Likely will discontinue coverage & pay any applicable penalty Likely will continue to offer health benefit coverage for employees Definitely will continue to offer health benefit coverage for employees

ABOUT THE AUTHOR RICK KLEIN, RIA, GBA

SENIOR VICE PRESIDENT HORTON BENEFIT SOLUTIONS PH: 708.845.3123 RICK.KLEIN@THEHORTONGROUP.COM LINKEDIN.COM/IN/RICKLKLEIN

www.thehortongroup.com

Rick Klein is a Principal and Senior Vice President of The Horton Group. With more than 20 years in financial services, Rick serves as an employee benefits and financial risk management consultant. He is a licensed Life and Health Producer, Registered Investment Advisor and General Securities Principal.

THE IMPACT OF HEALTHCARE REFORM ON THE FOOD INDUSTRY

HORTON’S FOOD INDUSTRY PRACTICE

SPECIALIZING IN BUSINESS INSURANCE, RISK MANAGEMENT AND EMPLOYEE BENEFITS The Horton Group features a full menu of products and services that cater to manufacturers, distributors, processors and other food-related industry groups. Our objective is to assist companies in lowering their overall cost of their risk, in addition to helping them attract and retain the best employees to work within their operation. Horton’s capabilities range from basic insurance procurement to advanced consultation and implementation of specialized services. The Horton Group delivers superior solutions in all lines, including business insurance, risk management and employee benefits. For more information about Horton’s Food Industry Practice, visit us online at www.thehortongroup.com/food.

PAUL JOHNSON, CPCU, CWCA FOOD INDUSTRY PRACTICE HORTON RISK MANAGEMENT PH: 312.917.8628 PAUL.JOHNSON@THEHORTONGROUP.COM

ALAN HARDER

FOOD INDUSTRY PRACTICE HORTON RISK MANAGEMENT PH: 312.917.8634 ALAN.HARDER@THEHORTONGROUP.COM LINKEDIN.COM/IN/ALANHARDER

LINKEDIN.COM/IN/PAULCJOHNSONCPCU

FOR MORE INFORMATION ABOUT HEALTCARE REFORM, GO TO WWW.THEHORTONGROUP.COM/HCR

ABOUT THE HORTON GROUP Founded in 1971, The Horton Group is one of the largest privately held insurance brokers in the country, ranking fifth in the metro Chicago market. Horton employs a model that focuses on driving down cost and workload resulting in a comprehensive insurance program. Our unique combination of service capabilities and business excellence gives Horton’s clients real solutions to complex issues. Our company’s tools, techniques and talent come together to form Horton’s aggressive, growth-oriented culture of quality.

LOCATIONS • • • •

ILLINOIS INDIANA TENNESSEE WISCONSIN

CONTACT INFORMATION PHONE: LINKEDIN: TWITTER: FACEBOOK:

800-383-8283 LINKEDIN.COM/COMPANY/THE-HORTON-GROUP TWITTER.COM/THE_HORTONGROUP FACEBOOK.COM/HORTONINSURANCEGROUP

www.thehortongroup.com

Healthcare Legislative Change

Administration Delays Employer Mandate Until 2015 On July 2, 2013, the Dept. of the Treasury announced that the employer mandate penalties and related reporting requirements of the Affordable Care Act (ACA) would be delayed for one year, until 2015. The Treasury has postponed the rules due to concerns about the complexity of the requirements and the need for more time to implement them effectively. The Treasury plans to issue more formal guidance on the delay within the next week and additional regulations on the reporting requirements, which are found in Internal Revenue Code Sections 6055 and 6056, over the summer. The new deadline also gives the administration additional time to provide more comprehensive guidance on the employer mandate. The delay does not impact any other provisions of the ACA, including the premium subsidies available to certain individuals who purchase health coverage through an Exchange.

ONE-YEAR IMPLEMENTATION DELAY

The employer mandate provisions of the ACA are also known as the employer shared responsibility or pay or play rules. These rules impose penalties on large employers that do not offer affordable, minimum value coverage to their full-time employees and dependents. They were set to take effect on Jan. 1, 2014. According to the Treasury, the delay of the employer mandate was required because of issues related to the reporting requirement. With the reporting rules delayed, it would be nearly impossible to determine which employers owed penalties under the shared responsibility provisions. Therefore, these payments will not apply for 2014. The now-delayed reporting requirements are found in Internal Revenue Code sections 6055 and 6056. These rules apply to insurers, self-insuring employers and other parties that provide health coverage, along with certain employers with respect to health coverage offered to their full-time employees. The Administration’s decision is based on concerns voiced by businesses about the complexity of the requirements and the need for more time to implement them effectively.

EFFECTS OF THE DELAY

The additional year will give employers time to understand the employer mandate rules, to make decisions about providing health coverage and to adapt their reporting systems, without worrying about potentially significant penalties. It is unclear how the new deadline will impact guidance that has already been issued, such as the transition relief for non-calendar year plans and the optional safe harbor for determining full-time status. The following compliance requirements may also be impacted: • Employers will not be required to provide health insurance coverage to employees with 30 hours of service per week. • There will be no need for large employers to consider implementing a measurement and stability approach to defining full time employees in 2014.

FUTURE GUIDANCE

The administration plans to use the additional implementation time to consider ways to simplify the new reporting requirements consistent with ACA. The Treasury also plans to discuss the rules with stakeholders, including employers that currently provide health coverage to employees, and then publish proposed rules implementing these provisions later this summer. It is the Treasury’s intention to minimize the reporting requirements. The pay or play regulations issued earlier this year left many unanswered questions for employers. The IRS had highlighted several areas where it would be issuing more guidance. Presumably, the additional time will give the IRS and Treasury the opportunity to provide more comprehensive guidance on implementing these requirements.

Keep current on Healthcare Reform changes online at: www.thehortongroup.com/hcr

Key buy- and sell-side considerations for food and beverage M&A activity

Prepared by: Bill Spizman, Partner, McGladrey LLP 312.634.4422, william.spizman@mcgladrey.com October 2012 After years of deftly navigating a choppy global economy, many food and beverage companies may have decided that a bigger ship makes for a smoother ride. According to a recent survey of food and beverage leaders by Canadean, a U.K.-based firm that tracks consumer market trends, 46 percent of respondents said they anticipate increased mergers and acquisition activity over the next 12 months. Survey respondents cited a variety of reasons for this expected uptick in deal flow, including increasing cost pressures and the weak liquidity position of many small food and beverage players,1 many of whom could benefit in an M&A transaction through either cashing out their holdings or gaining scale as part of a larger organization. In the broad consumer products and services sector, food and beverage remains a shining star in an otherwise dim M&A marketplace. According to McGladrey’s third quarter 2012 Private Equity Deal Flow Profile, consumer nondurable activity – especially food and beverage players with a focus on health and wellness – accounted for 31 percent of all quarterly private equity investments. That’s nearly double the activity found in the next closest consumer products segment. In the most recent McGladrey Manufacturing & Distribution Monitor report, 47 percent of food and beverage leaders described their companies as thriving and growing. Nearly four in five of these companies reported increased U.S. sales over the past 12 months, and a similar percentage expects to increase domestic revenue during the next year. Since 2008, food and beverage has been at or near the top of McGladrey’s thriving and growing index of 14 industry segments, rivaled only by the biotech, life sciences, and medical equipment and supplies sector. How has the food and beverage sector held up under economic duress better than most other industries? In a word: Resiliency. From 2005 through 2007, global prices for wheat, corn, rice and many oilseed crops nearly doubled.2 In response, many food and beverage companies reduced packaging (or serving) sizes to maintain profitability through the darkest days of the recession in 2008 and 2009. As consumer spending started to improve, food and beverage businesses gradually raised prices while holding the line of smaller product offerings, allowing them to improve profit margins. 1 2

http://tinyurl.com/9cbmtac http://www.oecd.org/agriculture/41227216.pdf

With widespread drought conditions across much of the United States expected to cause significant yield losses at harvest this fall, food and beverage producers will most likely attempt to pass along much of the increased cost of grain, produce and other agricultural commodities. However, any drought-related rise in grocery store, restaurant and packaged food pricing may be delayed until late year or 2013, since the increased cost of commodities needs to work through supply chain and processing cycles. For that reason, The Food Institute projects that near-term consumer price hikes for all food sectors will stay within the U.S. Agriculture Department’s original 2012 projection of 2.5 to 3.5 percent.3

Differentiators: Food and beverage companies Despite its resilience and steady financial performance, the food and beverage sector does present some distinct attributes that can negatively – or positively – affect a prospective M&A deal. A sampling of these includes: Prospect of tighter food safety regulations. Last year, President Barack Obama signed the Food Safety Modernization Act (FSMA), a sweeping series of reforms designed to increase preventive controls on foodborne illnesses. However, implementation of the law remains stalled in administrative review, making it difficult for a wide range of food and beverage entities to determine how much it will eventually cost to implement and monitor FSMA in its final form.4 Highly visible target for interest groups. Perhaps the most visible example of this issue comes from New York City Mayor Michael Bloomberg, who in early 2012 called for a ban on large soft drink sales at city restaurants, stadiums, mobile food carts and movie theaters. By September, the proposal to stop the sale of sugared beverages larger than 16 ounces was approved by the New York City Health Department.5 This first-in-the-nation ban has become a lightning rod between beverage industry advocates supporting consumer choice, and health care providers who believe large soft drinks are a major factor in the nation’s climbing obesity rate. From a possible M&A standpoint, this example is a timely reminder on the wisdom of reviewing current law – and any pending or proposed legislation – that might affect a target company’s product line. Low barriers for start-ups. At a time when industry trends point to consumers looking for more ethnically diverse food choices, entrepreneurs are answering the call. For example, many small food businesses are cutting deals with drug and convenience stores to market their fresh, locally produced items through their locations. Additionally, ethnic and natural foods purveyors are using food trucks to rapidly replace stand-alone specialty outlets as go-to locations for consumers seeking new food experiences.6 In situations where these innovators are marketing a good product with solid name recognition, the start-up may be an attractive target for larger capital investment. Growing demand for local and healthy products. The “buy local” movement continues to evolve, as more consumers want transparency about where their meats, dairy, fruits and vegetables were produced. In addition, customers are making more conscious choices about purchasing food or beverage products created through sustainable or organic practices. Meanwhile, the leading edge of retirement-age baby boomers are expected to control 52 percent of the domestic spending on groceries by 2015 – and that

3 4 5 6

http://www.foodinstitute.com/outlook.cfm http://www.foodsafetynews.com/2012/07/more-deadlines-missed-as-fmsa-rules-remain-stalled-at-omb/ http://healthland.time.com/2012/09/13/goodbye-big-soda-new-york-becomes-first-city-to-ban-large-sized-softdrinks/ http://www.supermarketguru.com/public/pdf/2012-Food-Trends-to-Watch-TLR.pdf

group is stoking demand for new food and beverage products with defined health benefits.7 Food and beverage companies on the leading edge of these trends are well positioned to command higher multiples in an M&A transaction.

Key buy-side considerations While there are literally dozens of factors that go into assembling the best buy-side deal for a client, following are key elements that are frequently overlooked. Is reported EBITDA correct? While EBITDA multiples have continued to rise for well-run food and beverage operations, it’s wise to double-check if the accounting is complete. For instance, if specifics on the target company’s commodity pricing contracts are not considered, prospective buyers may be vulnerable to unexpected cost surprises that can have a significant effect on EBITDA long after the transaction is complete. Product recalls are another factor that can affect EBITDA, so it is vital to determine what triggered the activity, and whether it is a one-time or recurring event. In addition, rebate accounting also requires careful consideration, especially if there are one-time items that outweigh the amounts actually recorded. A thorough EBITDA review will uncover a target company’s specific growth drivers and determine the accuracy of future financial projections. Impact of seasonality on working capital. Many food and beverage companies are especially susceptible to sharp seasonal revenue swings. Consider the HoneyBaked Ham Co., with over 400 storefront locations across the country, which generates 80 percent of its annual revenue over the Easter, Thanksgiving and Christmas holiday seasons.8 Prospective buyers of companies with such high seasonality need to carefully assess sales data to help make accurate budget and working capital projections. Added due diligence should also be conducted to determine if the business has any new products or services in the pipeline that might smooth revenue flow in nonpeak periods. Understanding the specific cost approach. Generally speaking, cost accounting in the food and beverage uses either a standard cost or a process cost approach. For example, a food manufacturer using standard cost would calculate raw material, labor and overhead costs for a defined time period and divide that total by estimated production units. Meanwhile, a process approach takes that same cost structure calculation, but divides it into actual production units for a specific time period. While the distinction sounds small, a purchase based on the wrong cost accounting projections can lead to some negative expense-side surprises long after a transaction is complete. Optimizing vendor relationships. A critical aspect of any successful food and beverage operation is the reliability – and cost-effectiveness – of its supply chain. In the Canadean global study, food and beverage company executives were highly focused on finding operating cost reductions, which included lower cost supply sources or joint cost reduction efforts with selected suppliers.9 When considering a potential merger or acquisition, buyers should thoroughly review and understand existing vendor contracts, assess performance and quality, and determine how those factors compare with the broader marketplace. This allows the buyer to accurately predict near-term costs and have an informed baseline on which to evaluate future vendor relationships. Customer concentration. This is a circumstance in which a high percentage of net revenue comes from a narrowly-defined customer base. For example, quickserve restaurants near a busy highway are very likely to draw a diverse collection of customers. On the other hand, a high-end restaurant in an urban business 7 8 9

http://www.supermarketguru.com/public/pdf/2012-Food-Trends-to-Watch-TLR.pdf http://www.usatoday.com/money/industries/food/2009-12-17-honeybaked17_CV_N.htm http://tinyurl.com/9cbmtac

district may have a much tighter pool of close-in corporate clients on expense accounts. If corporate entertainment budgets are cut, business will most likely take a sharp drop. For these reasons, it’s important to closely examine the customer base, recent sales patterns and any foreseeable economic disruptions in the local market. If a key customer is lost during the due diligence phases, a pro forma adjustment can be made to lower anticipated gross profit – and the overall purchase price.

Key sell-side considerations On many occasions, sellers may choose to handle transactions with internal resources or a local accounting partner. However, that approach can pose a number of risks, including: Not maximizing reported EBITDA. While prospective buyers want the most accurate EBITDA possible to avoid overpaying for a business, sellers also must take care to identify and include all appropriate addbacks. These may include valuing inventory at FIFO (first in, first out) rather than LIFO (last in, first out) and revising owner or family compensation rates to fair-market value (since some may be paid at above-market rates). Other common EBITDA boosters include removing charitable contributions, personal expenses, significant repair or maintenance bills, employee severance, and any one-time legal fees (such as those incurred in defending a lawsuit). Sellers who do not pay attention to these steps can leave a lot of money on the table on a high EBITDA multiple. Questions about whether all appropriate taxes were filed (or reported). The food and beverage industry is especially prone to IRS red flags when it comes to income, sales and use taxes. For example, some small or entrepreneurial start-up firms will pay suppliers in cash. Those suppliers, in turn, may not record such transactions for tax reporting purposes. If a prospective buyer’s due diligence process uncovers sloppy recordkeeping or open questions about tax reporting, it may lower the perceived value of the deal – or kill it altogether. Failure to provide timely information. When business owners try to run their food or beverage company – and also take charge of all details in a prospective deal – the net result is often negative on both fronts. If senior management’s attention is diverted from normal activities for extended periods, it can lead to business deterioration. And potential buyers and their representatives often provide short notice to deliver complex details on a company’s accounting, financial, IT, legal and staffing operations. If the seller cannot provide the proper detail in a timely fashion, it raises the odds that a suitor may look elsewhere. Inability to ensure no surprises to sellers. When a business owner decides to sell a food or beverage enterprise, the last thing they want is a last-minute surprise – particularly one that could have been avoided with proper planning. A skilled consulting resource can be a valuable asset in this process, especially if the company has not previously been through an M&A scenario, or if the firm’s local accounting resource does not have deep expertise in this area. Even for food and beverage operations with a sophisticated accounting staff, the right third-party resource can be an effective check and balance to confirm critical financial and tax analysis details. By assembling a confident, experienced deal team, food and beverage leaders can retain a higher percentage of prospective buyers, identify and resolve issues before they become a problem, and build goodwill by reducing buyer due diligence. Ultimately, this can lead to a higher sale price, lower deal preparation costs or both. In the current market, buying – or selling – a food and beverage business can be a highly profitable decision. Time and time again, the hallmarks of great M&A deals include strategic assessment, careful preparation, due diligence, market awareness and access to the right expertise. For more details on how to maximize your shortand long-term financial objectives for an M&A opportunity, contact a McGladrey food and beverage advisor today. 4

800.274.3978 www.mcgladrey.com McGladrey LLP is the U.S. member of the RSM International (“RSMI”) network of independent accounting, tax and consulting firms. The member firms of RSMI collaborate to provide services to global clients, but are separate and distinct legal entities which cannot obligate each other. Each member firm is responsible only for its own acts and omissions, and not those of any other party. McGladrey, the McGladrey signature, The McGladrey Classic logo, The Power of Being Understood, Power Comes from Being Understood and Experience the Power of Being Understood are trademarks of McGladrey LLP. © October 2012 McGladrey LLP. All Rights Reserved.

THE STRATEGIC MARKETING INSTITUTE WORKING PAPER

The Economic Impact of Michiganâ&#x20AC;&#x2122;s Food and Agriculture System Introduction Michiganâ&#x20AC;&#x2122;s food and agriculture system is a major contributor to income and employment in the stateâ&#x20AC;&#x2122;s economy. The food and agriculture system accounts for approximately $91.4 billion in direct, indirect and induced economic activity. This sector also accounts for an excess of 923,000 jobs both directly, indirectly and through induced activity. The food and agriculture system is fairly complex. The supply chain for products produced by this sector goes through several steps. Inputs are used at the farm level to grow the crops, livestock and milk, and fruits and vegetables. Farm products in turn are collected, graded, sorted, etc. After this step, the commodities are sent to food processors to create manufactured food products or in the case of fresh fruits and vegetables sent to wholesalers and brokers to be sold to retailers such as supermarkets or the food service industry. The manufactured food markets are then wholesaled and retailed or consumed in restaurants. Agricultural products used for energy such as ethanol which uses corn as a feedstock follows a somewhat different path. In the case of ethanol, corn is collected and the ethanol is extracted from the corn. The primary residual product Dried Distillers Grains (DDGs), is used as an animal feed. As the above outline shows, the food and agricultural system is complex and interconnected. Agriculture is much more than farming. As such, in order to obtain a complete picture of the economic impact of the sector, allied economic activity and employment also need to be considered as well as the income and employment generated throughout the system. The primary method used to generate figures on the total economic activity generated by the food and agriculture system is an input-output model with multipliers generated

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Working Paper No. 01-0312

William A. Knudson and H. Christopher Peterson March 2012 80 Agriculture Hall, Michigan State University, East Lansing, MI 48824

by IMPLAN, a company that specializes in economic impact analysis software. More information about IMPLAN and the underlying assumptions the program uses can be found in the appendix. This paper will analyze the economic impact of the farm, food processor and wholesale and retail levels of the agri-food supply chain on the Michigan economy. The input supply sector will also be considered as will first level handlers of agricultural commodities such as grain elevators. For the purposes of this report, the nursery and landscape industries will also be considered part of the agri-food sector. Michigan is an important producer of many nursery and landscape products. The size and impact of the ethanol sector will also be discussed. Currently, the state has five ethanol plants and no biodiesel facilities in operation. However, there are several biodiesel facilities and advanced biofuel facilities under consideration. The Agri-Energy industry will likely grow in the future. It should be noted that the research methodology in this paper is based on that in Professor John N. Ferrisâ&#x20AC;&#x2122; Staff Paper 00-11, An Analysis of the Importance of Agriculture and the Food Sector to the Michigan Economy, which was written in May of 2000. In most respects, this paper is an update of Professor Ferrisâ&#x20AC;&#x2122; previous study.

Economic Impact of the System Input Supply Firms Farm products are produced through converting inputs such as fertilizer, fuel, credit, equipment, land, chemicals, seed, and other factors of production into milk, beef, grains, fruits, vegetables and other farm products. The farm input supply industry is a critical link in the food and agriculture supply chain. For example, in 2010, Michigan farmers purchased $599.1 million in fertilizer and lime, $222.6 million in pesticides, and $275.2 million in petroleum fuels and oil (Michigan Agricultural Statistics Service, p.10). The total economic impact of the input supply sector is included in the multiplier effects of the farm sector. The income and economic activity generated at the farm level includes the farm input supply industry.

The Farm Sector Livestock and Dairy In dollar terms, livestock and dairy ranks behind field crops in terms of economic activity. Table 1 shows

the economic impact of the livestock and dairy sector. These figures are a three year average from 2008 through 2010. As table 1 indicates, the total direct impact of the livestock and dairy sector was $2.77 billion. Of this amount dairy accounted for almost $1.32 billion or about 50 percent of the total. Dairy farming is the largest single livestock industry in the state. Other major livestock activities included cattle, hogs, eggs and turkeys. Dairy, eggs and turkeys show an upward trend in production and value. These figures are derived from IMPLAN, and are adjusted to take double counting into account. The value of the livestock products include the value of feed which is also included in the value of grain and hay production. In order to obtain a more accurate figure, the value of feed was subtracted out. The total economic impact of the livestock and dairy sector is approximately $4.73 billion. This includes both direct and backward linked indirect economic activity resulting from livestock and dairy farming. Backward linked industries in the farm sector are input supply industries that were discussed previously.

Table 1: Economic Impact of Livestock Products (Average 2008-2010)

Table 2: Economic Impact of Field Crops (Average 2008-2010)

Direct Impact ($1,000s)

Total Impact ($1,000s)

351,426

633,890

1,320,219

2,294,716

Eggs

174,732

307,195

Hogs

265,740

450,047

6,753

11,437

485,190

Mink Sheep and Lambs

Product Cattle Milk

Honey Horses*

Direct Impact ($1,000s)

Total Impact ($1,000s)

1,463

2,598

1,324,726

2,352,615

Dry Beans

123,589

246,901

Hay

Crop Barley Corn for Grain

326,966

574,088

Maple Syrup*

4,930

9,849

736,567

Mint

2,403

4,801

2,747

4,652

Oats

10,373

18,420

4,728

8,007

Potatoes

160,221

320,083

Soybeans

819,244

1,429,667

Sugarbeets*

160,692

299,302

Wool

169

286

Trout

910

1,541

108,666

191,045

Wheat

218,461

387,944

Other

51,189

86,692

Other

38,843

77,599

Total

2,772,469

4,726,075

Total

3,191,911

5,723,867

Turkeys

Source: * Economic Impact of the Michigan Equine Industry Michigan Agricultural Statistics Service: Michigan Agricultural Statistics 2010-2011

* 2007-2009 Source: Michigan Agricultural Statistics Service: Michigan Agricultural Statistics 2010-2011

Field Crops Field crops are the largest sector the Michigan farm economy. Table 2 shows the economic impact of the major field crops grown in the state. The three largest field crops in dollar terms are corn, soybeans, and hay. Corn has become the largest single farm sector with sales in excess of $1.3 billion. Wheat, sugar beets, potatoes and dry beans also account for more than $100 million each a year in direct economic activity per year. Michigan ranks second in the U.S. in the production of dry beans. The total direct economic activity generated by the field crops is $3.19 billion. Total economic activity including backward linked activity such as farm input supplies is $5.72 billion.

Vegetables Michigan is known for the wide variety of vegetables grown in the state. Table 3 lists the major vegetables grown in the state and the economic value generated

by these products. In dollar terms, cucumbers and tomatoes are the largest category of vegetables produced in the state. However, there are many vegetables which by themselves are small, however when aggregated they are quite large, which is reflected in the size of the â&#x20AC;&#x153;otherâ&#x20AC;? category. The state is an important producer of many specific categories of vegetables. In 2010, the state was the number one producer of cucumbers for pickles and squash and ranked second in celery production and fresh market carrot production. The state is the third largest producer of asparagus and fresh market cucumbers (Michigan Agricultural Statistics, p.1). The direct value of the vegetable sector is $311.2 million with a total economic impact, including backward linked industries of approximately, $673.5 million. It should be noted that IMPLAN treats all vegetables the same no matter what type of vegetable produced or whether the vegetable is produced for the fresh market or for the processed market.

Fruit Table 3: Economic Impact of Vegetable Production (Average 2008-2010)

As is the case with vegetables, the state is a major producer of fruits. Table 4 shows the economic impact of fruit production in the state.

Direct Impact ($1,000s)

Total Impact ($1,000s)

4,975

10,766

Cucumbers for Processing

46,737

101,143

Snap Beans for Processing

13,325

28,837

12,112

26,211

Snap Beans

5,960

12,898

Cabbage

11,052

23,918

Carrots

12,128

26,246

Crop

Sweet Corn

21,278

46,048

Apples

117,400

263,514

Cucumbers

17,734

38,378

Blueberries

120,050

269,462

Onions

12,337

26,698

Tart Cherries

42,757

95,972

Tomatoes

22,390

48,454

Sweet Cherries

13,192

29,610

Asparagus

16,339

35,359

Grapes

21,360

47,944

Celery

15,828

34,253

Peaches

11,286

25,332

Bell Peppers

11,888

25,727

Pears

971

2,179

Pumpkins

13,135

28,425

Plums

947

2,126

Squash

12,009

25,989

Strawberries

5,517

12,383

Other

61,995

134,163

Other

4,420

9,921

Total

311,222

673,513

Total

337,900

758,443

Crop Carrots for Processing*

Tomatoes for Processing

* average of 2006-2008 Source: Michigan Agricultural Statistics Service Michigan Agricultural Statistics 2010-2011

The largest fruit categories in dollar terms are apples, blueberries, and tart cherries. The state leads the nation in the production of tart cherries and blueberries. The state is the third largest producer of apples. Grape production includes both juice and wine grapes. Given the growth in the wine industry, this figure is likely to be understated. Table 4: Ecomomic Impact of Fruit Production (2008-2010) Direct Impact ($1,000s)

Total Impact ($1,000s)

Source: Michigan Agricultural Statistics Service Michigan Agricultural Statistics 2010-2011

The direct economic impact of fruit production in the state is $337.9 million. The total economic activity including backward linked industries related to fruit production is $758.4 million. As is the case with vegetable farming, IMPLAN uses the same multiplier for all types of fruit and for the fresh and processed markets.

Nursery/Landscape Michigan ranks third in the nation after California and Florida in the production of nursery and landscape products. It is first in the nation in the production of Geraniums, Impatiens, and Petunias. It is second in the nation in the production of Hostas, Marigolds and garden Chrysanthemums (Michigan Agricultural Statistics, p.1). The state is a major producer of Christmas trees as well. The economic impact of this industry is often overlooked. The direct impact of nursery and landscape production is estimated to be $621.2 million. The total impact of the nursery and landscape production including backward linked industries is $1.20 billion.

Miscellaneous Farm Production and the Size of Michigan Farming There are several miscellaneous products produced on farms throughout the state. These products do not fit neatly into any of the above categories. The total direct output from these activities is estimated to be $4.4 million. The total economic impact of these miscellaneous commodities is estimated to be $8.8 million. The total economic impact of Michigan farming is summarized in table 5. Table 5 overstates the total impact of the farm sector due to double counting. For example, breeding livestock can be both a cost

of production and a source of revenue. Adjusting for double counting will occur when all aspects of the food and agriculture system are taken together. Table 5 does show the importance of the farm sector on the Michigan economy. Even after adjusting for double counting, the sector accounts for about $11 billion in total economic activity and more than $6 billion in direct economic activity.

Food Processing and Manufacturing The next step along the supply chain from the farm level is food processing and manufacturing. Intermediate steps such as collection, transportation, grading, sorting, etc. are backward linked to food processing and manufacturing. Just as there is a multiplier effect for farming there is also a multiplier effect for food processing and manufacturing. Table 6 shows the impact of food processing and manufacturing in Michigan. These figures come from the 2007 economic census. While the 2007 census figures are the most recent and accurate figures available, they likely underestimate the current value of food processing and manufacturing. Increases in farm prices as well as general inflation have likely increased food processing sales and related economic impact. Table 6 shows the wide range of activities carried out by the food processors and manufacturers in the state. The legacy of the prepared cereal entrepreneurs can be seen in the size of the breakfast cereal industry in the state which accounts for more than $2 billion in total economic activity. The size of the Michigan dairy industry is reflected in the size of the fluid milk industry, and the production of other dairy products. The great diversity of agricultural commodities grown in the state is reflected in the size of processed fruit and vegetable products industries.

Table 5: Impact of Michigan Farm Production (Average 2008-2010) Type of Product Produced

Direct Impact ($1,000s)

Indirect and Induced Impacts ($1,000s)

Total Impact ($1,000s)

Livestock/Dairy

2,772,469

1,953,606

4,726,075

Field Crops

3,191,911

2,531,956

5,723,867

Vegetables

311,222

362,291

673,513

337,900

420,543

758,443

621,221

579,458

1,200,679

4,412

4,402

8,814

7,239,135

5,852,256

13,091,391

Fruits Floriculture/ nursery/turfgrass Miscellaneous Total

Source: Michigan Agricultural Statistics Service Michigan Agricultural Statistics 2010-2011

The total size of the food processing and manufacturing industries is $14.7 billion in direct economic activity and approximately $24.6 billion in total economic activity. Indirect and induced economic activity resulting from food processing and manufacturing is about $9.91 billion.

Food Wholesaling and Retailing Most of the value added in the food and agriculture system is a result of activities in food wholesaling and

retailing. The figures for these activities were estimated using the U.S. Department of Agriculture figures for spending on food in 2010, and adjusting for Michiganâ&#x20AC;&#x2122;s share of the U.S. population. The multiplier used is a weighted average of wholesaling, retail and food service multipliers. It is estimated that direct impacts of the wholesaling, retailing and food service sectors of the agri-food system is approximately $29.1 billion with a total economic impact of approximately $51.5 billion.

Table 6: Economic Impact of Food Processing 2007 Industry Pet Food Manufacturing Other Animal Food Manufacturing Flour Milling/oilseed/Fats and Oils Processing

Direct Impact ($1,000s)

Indirect and Induced Impacts ($1,000s)

Total Impact ($1,000s)

14,420

8,421

22,841

196,957

102,689

299,646

193,701

180,517

374,218

Breakfast Cereal Manufacturing

1,241,137

782,140

2,023,277

Sugar Manufacturing

459,520

407,466

866,986

Candy and Chocolate Manufacturing

272,214

188,318

460,532

Frozen Food Manufacturing

418,288

355,412

773,700

Fruit and Vegetable Canning/Pickling/Drying Fluid Milk and butter Manufacturing Cheese Manufacturing Dry/Condensed/Evaporated Milk Manufacturing Ice Cream and Frozen Dessert Manufacturing Animal (except poultry) Slaughtering

985,837

669,427

1,655,264

1,283,759

979,818

2,263,577

274,832

185,875

460,707

2,330,785

1,590,887

3,921,672

70,379

55,756

126,135

1,059,640

621,840

1,681,480

Poultry Processing

664,034

377,610

1,041,644

Meat Processed from Carcasses

528,799

310,154

838,953

1,320,977

1,166,306

2,487,283

14,983

10,226

25,209

Bread and Bakery Product Manufacturing Cookie/Cracker/Pasta Manufacturing Tortilla Manufacturing Snack Food Manufacturing Coffee and Tea Manufacturing Seasoning and Dressing Manufacturing All Other Food Manufacturing Soft Drinks and Ice Manufacturing

188,171

133,118

321,289

142,927

91,226

234,153

71,783

56,738

128,521

324,137

211,748

535,885

346,658

272,275

618,933

2,155,532

1,091,340

3,246,872

Breweries

66,725

36,616

103,341

Wineries

30,995

20,228

51,223

14,657,190

9,906,151

24,563,341

Total Source: U.S. Census Bureau Economic Census 2007

Total Value of the Food and Agriculture System The last two components of the Food and Agriculture System not accounted for in previous sections are leather processing and ethanol. Their respective economic impacts are included in the summary Table 7. The ethanol figures have been adjusted to exclude the value of corn used in the production of ethanol and to include the value of dried distillers grains produced as a result of the ethanol production process.

estimated to be $52.4 billion, an increase of 45.9% 2004-2010. The total economic impact of these industries is equal to $91.4 billion, an increase of 51.9% 2004-2010. The activities accounted for are not entirely complete. For example, farm market sales are not included, nor are some agri-tourism activities. The figures should be considered estimates and not the definitive picture of Michigan food and agriculture. They are the best estimates given the level of information available and the assumptions made. The Appendix provides a more complete discussion of the methodology used.

Total 7 presents the total value of the Michigan Food and Agriculture System. Direct economic activity is

Table 7: Aggreate Estimates of Direct and Extended Values of Output in Michigan's Food and Agriculture System (2010) Economic Output (millions $) Direct

Indirect and Induced

Total

7,239

5,852

13,091

14,657

9,906

24,563

Agricultural Production and Processing Farming Food Processing and Manufacturing Leather Processing

Total

21,948

15,790

37,738

Adjustment for Double Counting

(1,231)

(909)

(2,140)

Net Total

20,717

14,881

35,598

Food Wholesale and Retail

29,046

22,000

51,046

Total Food and Agriculture before Related Sectors

49,763

36,881

86,644

2,472

2,043

4,515

195

223

52,430

38,952

91,382

Floricultural/ornamental/turfgrass services and retail Net Impact of Ethanol Production Grand Total for the Food and Agriculture System

The Impact of the Food and Agriculture System on Employment Introduction

Input Supply Firms

The techniques used to determine the level of employment attributed to the food and agriculture system is similar to determining the economic impact of this sector. One thing that makes the analysis easier is the fact that double counting is less of an issue; a job is only counted once. Jobs are not inputs in other jobs. One thing that makes the analysis more difficult however is that employment estimates are on a jobs basis and do not discern full and part-time employment. Basing employment in terms of full-time equivalents (FTEs) would make comparisons easier. Adjusting for FTEs is done at the farm level but is not done in the other industries.

As is the case with the economic impact figures, employment figures in the input supply industries are linked backward into agricultural production. The input supply industry is an important aspect of the food and agriculture system. Employees in this industry serve a vital role in providing goods and services to farmers.

As a result the employment figures listed in this section may overstate the full effects of employment resulting from the food and agriculture system. As noted, the farm sector is adjusted to include employment on an FTE basis. Most other industries such as wholesaling and many food manufacturing operations also employ people on a full time basis. Other industries such as the food service industry employ many people on a part-time basis. This is not adjusted for in the figures, and therefore the impacts of employment may be overstated.

Farming

The employment numbers have multiple sources across several different years. An attempt was made to use the latest data available. Data source include the 2007 Economic Census, the Michigan Economic Development Corporation and Bureau of Labor Statistics (BLS) for the state of Michigan, and the 2007 Census of Agriculture for farm level employment. Food wholesale and retail estimates used output/ employee and total sector revenues. (See the Appendix for additional detail.) As is the case with the economic impact figures, the employment figures will be split by farm sector, food processing/manufacturing, wholesaling, and retailing. Employment in the nursery/landscape/turf grass and ethanol industries will also be considered.

As farming become more complex the need for the services offered by input supply firms is likely to increase. The utilization of custom harvesting, custom spraying, crop scouting, and other services will likely increase in the future, placing more emphasis on the input supply industry.

The Census of Agriculture breaks both farmers and farm labor down according to the number of hours worked. This allows an estimate of the number of FTEs employed in farming. In 2007, the state had 56,014 farmers, not all of them full-time producers. There were also 86,072 hired farm workers in 2007. Table 8 gives a breakdown of the number of farmers and hired farm workers in 2007. Table 8: Employment on Michigan Farms 2007 Type of Employment

Total Number

Full-Time Equivalents

None

20,533

Less than 200

13,068

8,131

Days Worked Off Farm

More than 200

22,413

2,242

56,014

30,906

150 or More

24,284

Less than 150

61,788

18,536

86,072

42,820

142,086

73,726

Total Hired Labor Days Worked on Farm

Total Grand Total

Sources: USDA Census of Agriculture

Table 8 shows the dichotomy of Michigan farms. Most farmers are either full-time farmers or part-time farmers who derive little income from their on-farm activities. It is estimated that there are 30,906 farmer FTEs. Farming is also an important employer; especially for part-time or seasonal work. The number of hired labor FTEs is estimated to be 42,820. In 2007, there were 142,086 people employed at the farm level with a total number of FTEs in the industry estimated to be 73,726. Using an employment multiplier of 1.421 yields a total number of those employed in farming and backward linked industries of 104,764. Indirect and induced employment is equal to 142,086. Compared with the 2006

study, the level of employment in farming is steady or increasing slightly.

Food Processing and Manufacturing Due to the diversity of Michigan agriculture, the state has a wide range of food processing and manufacturing facilities. The employment resulting from food processing and manufacturing is outlined in table 9. This figure should be considered an estimate. Many industries have one or a few firms. Many employment numbers are suppressed in order to protect the iden-

Table 9: Food Processing Employment in Michigan Direct Employment

Indirect and Induced Employment

Total

178

225

359

1,271

1,630

Flour Milling

512

3,228

3,740

Starch and Vegetable Oil Manufacturing

259

1,352

1,611

3,908

11,548

15,456

Sugar Manufacturing

1,136

3,169

4,305

Chocolate and Confectionary Manufacturing

769

1,077

1,846

Industry Pet Food Manufacturing Other Animal Food Manufacturing

Breakfast Cereal Manufacturing

Nonchocolate Confectionary Manufacturing

129

174

303

Frozen Food Manufacturing

2,286

3,596

5,882

Fruit and Vegetable Canning/Pickling/Drying

4,374

9,061

13,435

Fluid Milk and Butter Manufacturing

3,196

12,123

15,319

730

3,129

3,859

Cheese Manufacturing Ice Cream and Frozen Dessert Manufacturing

272

576

848

Animal (except poultry) Processing

2,554

4,765

7,319

Poultry Processing

1,762

1,455

3,217

Meat Processed from Carcasses

1,418

2,619

4,037

156

256

412

Bread and Bakery Product Manufacturing

6,969

6,369

13,338

Cookie, Cracker and Pasta Manufacturing

1,300

2,713

4,013

198

178

376

1,024

2,711

3,735

680

2,478

3,158

Seafood Processing

Tortilla Manufacturing Snack Food Manufacturing Coffee and Tea Manufacturing Flavoring Syrup and Concentrate Manufacturing

313

386

Seasoning and Dressing Manufacturing

853

1,926

2,779

All Other Food Manufacturing

904

1,521

2,425

4,012

8,896

12,908

Breweries

344

787

1,131

Wineries

568

814

1,382

111

40,828

88,358

129,186

Soft Drink and Ice Manufacturing

Distilleries Grand Total

Sources: Economic Census. Michigan Economic Development Corporation

tity and employment levels of specific firms. Employment figures for food processing were provided by the 2007 Economic Census updated to 2010 by information from the Michigan Economic Development Corporation. The number of employees in food processing and manufacturing industries is estimated to be 40,828. There were an additional 149 workers employed in the leather tanning and finishing industry with a total employment, both direct and indirect of 380. The total level of employment directly in these industries is 40,977 with a total level of direct and related backward linked industries of 129,566. The level of employment in food processing and manufacturing appears to be increasing.

Food Wholesaling and Retailing As is the case when dealing with the financial impacts of wholesaling and retailing employment in these industries is broken down by employment resulting from Michigan based agricultural commodities and employment based on non-Michigan agricultural commodities. Employment in wholesaling is outlined in table 10. In total, the wholesaling sector accounted for 29,179 jobs in direct employment and a total of 61,911

in direct, indirect and induced employment. Employment in food wholesaling appears to be holding steady or increasing slightly. Employment in retailing is extremely difficult to estimate. Food products are sold virtually everywhere: gas stations, club stores, bookstores, golf courses, and bowling alleys to name a few. Furthermore, much of the employment at retail level is part-time. This is especially true for those employed in the food service industry. Conversely, not all purchases at grocery stores or other traditional food outlets are spent on food products. One way to estimate employment at the retail level is to divide the expenditures on food purchases by retail sales per employee. This was used to derive a figure for food store employment. Figures for food service are from the 2007 Economic Census. Total employment in the wholesale, retail and food service sectors of the food and agriculture system is estimated to be 435,320. The total impact of these sectors on employment is 593,188. It appears that employment in these sectors is declining, especially in the retail and food service industries. Consumers are moving away from traditional supermarkets toward more efficient mass merchandisers such as Meijer and Wal-Mart.

Table 10: Employment in Agri-Food Wholesaling Industries Direct Employment

Indirect and Induced Employment

Total Employment

General Line Grocery Merchant Wholesalers

6,676

7,490

14,166

Packaged Frozen Food Wholesalers

1,434

1,608

3,042

295

330

625

1,504

1,687

3,191

Industry

Fish and Seafood Wholesalers Meat and Meat Product Wholesalers Fruit and Vegetable Wholesalers

1,976

2,216

4,192

Dairy Product Wholesalers

1,462

1,640

3,102

Confectionary Wholesalers

1,662

1,864

3,526

Other Grocery Product Merchant Wholesalers

7,513

8,429

15,942

Nursery and Florist Merchant Wholesalers

1,305

1,464

2,769

5,311

5,958

11,269

29,179

32,732

61,911

Poultry Product Wholesalers

Alcoholic Beverage Wholesalers Total

Source: Economic Census, BLS Quarterly Census of Employment and Wages

Ethanol One ethanol plant normally employs 35 people. The five plants in operation in Michigan employ 175 people directly. Using a multiplier of 3.875 yields a total direct and indirect employment for these plants of 678 persons. Given the increased interest in alternative energy and technological advances in methane digesters and other forms of bio-energy, employment and output in agrienergy may increase in the future. However, increases from corn ethanol are unlikely.

Employment Summary Table 11 gives the breakdown of employment in Michiganâ&#x20AC;&#x2122;s Food and Agriculture sector by industry. There is some adjustment for double counting due to the fact that some on farm employment may be counted under more than one activity (such as crop production and livestock production). Also, some processing occurs on farm which could lead to double counting of farming and processing employment. Two sectors not commented on separately but shown in Table 11 are leather processing and floriculture/ornamental/

turfgrass services and retail. Floriculture/ornamental/ turfgrass adds an additional 20,517 direct jobs with a total impact on employment of 33,393. It is estimated that the Food and Agriculture System accounted for 617,854 jobs in direct activity and 305,643 jobs in indirect and induced activity for a total of 923,497 jobs in the state. It appears that the level of employment in the food and agriculture system has declined since the 2006 study. Overall employment has declined by more than 124,000 or 11.8 percent. All of the decline appears to be in the food retail and food service sectors, although there may be some decline in the ornamental horticulture retail and services industries as well. This decline may be due to the recession, increased concentration in the food retail sector and technological change such as the growth of self-serve food checkout lanes. According to the BLS, there were approximately 4.2 million people employed in the state in 2010 not adjusted for FTEs. The Food and Agriculture System accounted for approximately 22 percent of all the jobs in the state. This sector is an important source of jobs and income to the stateâ&#x20AC;&#x2122;s residents.

Table 11: Total Employment in Michigan Food and Agriculture System Agricultural Production and Processing

Direct

Indirect and Induced

Total

Farming

73,726

31,038

104,764

Food Processing and Manufacturing

40,828

88,358

129,186

149

231

380

114,703

119,627

234,330

29,179

32,732

61,911

Retail and Food Service

453,320

139,868

593,188

Total Retail and Food Service

482,499

172,600

655,099

20,517

12,876

33,393

175

503

678

617,894

305,606

923,500

Leather Processing Total Agricultural Production and Processing Wholesale and Retail Wholesale

Floricultural/Ornamental/Turgrass Services and Retail Ethanol Grand Total

Comparisons of 2004 and 2010 Economic Impacts and Employment This report represents a complete update and restatement of a similar report published by the Product Center in 2006. That report was largely based on 2004 data while this report is largely based on 2010 data. Table 12 presents comparisons across the 6-year period. The total economic impact of the Food and Agricultural System increase dramatically — 52% in total for a compound annual growth rate of 7.2%. Every part of the value chain grew except the relatively small sector of leather processing. Farming had a substantial increase of 96% for a compound annual growth rate of 11.8%. The change was not positive on the employment side. Overall system employment was down slightly less than 11%. Further analysis shows that the decline is nearly entirely in the Food Wholesale and Retail

sector while the remainder of the system grew. Food and Agricultural Production and Processing created just under 14,000 jobs, a 6.3% increase which is significant given the downturn in the general economy over the same period. Food Wholesale and Retail lost 124,000 jobs, a 15.9% decline. Considering what was happening to the state’s economy from 2004 to 2010, the positive story is the dramatic increase in dollars of economic output while the employment situation is mixed, positive for food and agricultural production and processing while negative most especially for food retailing. The food and agriculture system is a major source of economic activity and adds a level of stability to a state that is dependent on industries that are susceptible to business cycle fluctuations.

Table 12: 2004-2010 Comparison of Total Economic Impact and Employment in Michigan’s Food and Agriculture System Category

Economic Impact (millions $)

Food & Agricultural Production & Processing

2004

2010

% Change

2004

2010

% Change

Farming

6,694

13,091

95.6%

102,900

104,764

1.8%

Food Processing and Manufacturing

18,035

24,563

36.2%

116,295

129,186

11.1%

874

-90.4%

1294

380

-70.6%

Leather Processing Adjustment for Double Counting

Employment

(2,140)

Net Total

25,603

35,598

39.0%

220,489

234,330

6.3%

Food Wholesale and Retail

31,456*

51,046

62.3%

779,105*

655,099

-15.9%

Total Food & Agriculture before Related Sectors

57,059

86,644

51.8%

999,594

889,429

-11.0%

Floricultural/ornamental/turf grass services and retail

3,025*

4,515

49.3%

35,338*

33,393

-5.5%

223

197.3%

135

678

400.0%

60,159

91,382

51.9%

1,035,067

923,497

-10.8%

Net Impact of Ethanol Production Total Food and Agriculture

*Changes in the classification of Floricultural/ornamental/turfgrass retail and other minor adjustments make these figures not directly comparable to the 2006 Report classifications.

Summary of Economic and Employment Impacts Michigan’s food and agriculture system accounts for a total of almost $91.4 billion in total economic activity and more than 923,000 jobs. The sector generates more than $52.4 billion in direct activity (farming, food processing and manufacturing, wholesaling, retailing, and food service), and almost 618,000 jobs in the same activities. Given these figures, the importance of the food and agriculture system on the economy becomes evident.

To a great extent the health of the Michigan economy is dependent on this sector. The food and agriculture system also adds to the stability of the state’s economy. Much of Michigan’s economy is based on industries that have strong adverse reactions to economic downturns. Due to the fact that food is a necessity, the food and agriculture system is more resistant to the negative impacts of a recession.

APPENDIX: Research Methodology Overview The research methodology in this paper is based on that in Professor John N. Ferris’ Staff Paper 00-11, An Analysis of the Importance of Agriculture and the Food Sector to the Michigan Economy, which was written in May of 2000. In most respects, this paper is an update of Professor Ferris’ previous study. One shortcoming to this study is that different years were used for the analysis. The most recent data available was used to generate the estimates. However, for processing and manufacturing, the most recent available numbers were from the U.S. Economic Census and are based on 2007 figures. Farm employment is based on the 2007 Agriculture Census and is also somewhat dated. Nonetheless, this analysis does give a good general perspective on the size and scope of the food and agriculture system.

The Farm Sector and Food Manufacturing The output on farms is a three year average from 2008 through 2010. Due to climate and other factors, farm output can vary widely from year to year; a three year average eliminates some of this variability. The multipliers used to determine the total economic impact of farming are derived from IMPLAN; related industries were subtracted out in order to reduce the potential for double counting. 12

On farm employment is derived from the U.S. Census of Agriculture data for Michigan. The same adjustments were made for part-time labor and part-time farmers to generate a figure for FTEs. Food manufacturing output figures come from the 2007 U.S. Economic Census, the employment figures were provided by the Michigan Economic Development Corporation.

Wholesaling and Retailing Output for wholesaling and retailing were generated from the USDA Economic Research Service’s Food CPI, Prices and Expenditures; Food and Alcoholic Beverages: Total Expenditures historical data series for 2010. These figures for food consumed at home, consumed away from home and alcoholic beverages were multiplied by Michigan’s share of the U.S. population to get Michigan’s share of total consumption. Sales per employee was used to estimate the number of employees in food retail. The 2007 Economic Census and County Business Patterns were used for retailing in the ornamental horticulture retail and food services industries.

Agri-Energy The estimates for employment related to ethanol production were derived from Dale Swenson’s Model

Economic Analyses: An Economic Impact Assessment of an Ethanol Production Facility in Iowa. The economic impact estimate was based on the value of ethanol produced and the value of DDGS minus the value of the corn that was used to produce the ethanol.

IMPLAN uses the following assumptions to derive its results: constant returns to scale; no supply constraints; fixed commodity input structure; homogenous sector output, and it assumes the technology used is constant (IMPLAN, p.103).

IMPLAN

Constant returns to scale means that if output increases the amounts of the inputs used increase by the same proportion. No supply constraints mean that inputs are unlimited and that output is limited only by the demand for its products. This assumption is not an issue in this study; this is actual output not potential output. Fixed commodity input structure means that firms will not substitute one input for another if input prices change. Homogenous sector output means that the proportions of all the commodities produced by that industry remain the same as output increases or decreases. As a result of these assumptions the results of the economic impact and impact on employment should be considered estimates.

IMPLAN is a standard economic impact software package. From direct effects, in the case of this study, sales in the various industries, the total impact on the economy can be estimated. This includes the direct impacts, the indirect impacts which are changes in the inter-industry purchases as the respond to the directly affected industry and induced impacts with reflect changes in households as a result of the activity; in this case agri-food industry activity (IMPLAN, p102). In order to minimize double counting an IMPLAN run was done for every agriculture commodity, food processing activity, food wholesaling, retailing and food service. The impacts on related industries in the system were then subtracted out.

Sources Canning, P. A Revised and Expanded Food Dollar Series: A Better Understanding of Our Food Costs, Economic Research Report Number 114. Washington: Economic Research Service, U.S. Department of Agriculture, February 2011. Ferris, J.N. An Analysis of the Importance of Agriculture and Food Sector to the Michigan Economy, Staff Paper 00-11. East Lansing: Department of Agricultural Economics, Michigan State University, 2000.

U.S. Department of Agriculture, Economic Research Service. Briefing Room: CPI, Prices and Expenditures: Food and Alcoholic Beverages: Total Expenditures. U.S. Department of Agriculture, National Agricultural Statistics Service. 2007 Census of Agriculture, Michigan State and County Data, Volume 1, Geographic Area Series, Part 22, AC-02-A-22. Washington: U.S. Department of Agriculture, 2009.

First Research. Grocery Stores and Supermarkets, 2005.

U.S. Department of Commerce, Census Bureau, 2007 Economic Census, Michigan, 2010.

Michigan Agricultural Statistics Service. Michigan Agricultural Statistics 2010-2011. Lansing: 2011.

U.S. Department of Commerce, Census Bureau. County Business Patterns.

Minnesota Implan Group. Userâ&#x20AC;&#x2122;s Guide, Analysis Guide Data Guide, IMPLAN Pro Version 2.0. Stillwater: Minnesota IMPLAN Group, 2004.

U.S. Department of Labor, Bureau of Labor Statistics.

Swenson, D. An Economic Impact Assessment of an Ethanol Production Facility in Iowa. Ames: Iowa State University, 2005.

Innovation

FOOD & BEVERAGE

Perspective

UPDATE 2 013 For the food & beverage industry innovation is essential to keep up with the growing alignment between food and wellness.

audit • tax • consulting

Jeff Mengel, Plante Moran

ow important will revenuegenerating or cost-saving innovations be to the food & beverage industry in the next two years? Very important was the answer Plante Moran got when it recently surveyed industry leaders in its ongoing efforts to demystify innovation for the middle market.

and well in front of manufacturing in general at 8.25.

In fact the food & beverage industry ranked innovation 8.45 on a one to 10 scale, just behind the beleaguered not-for-profit sector at 8.47

Among the biggest challenges is responding to the trend connecting food and health. With healthcare reform’s focus on wellness the lines between food and drugs are blurring. In

With dramatic changes in demand and markets, as well as the most sweeping reform of food safety laws in more than 70 years, it’s no wonder that industry leaders feel enormous pressure.

Innovation UPDATE 2013

{ continued from previous page } fact, some food products like flaxseed oil are being called nutraceuticals because of their ability to protect against chronic disease.

Consumers are demanding quality, hormone-free ingredients and Exotic, natural flavors

In keeping with this trend, the Center for Innovative Food Technology (CIFT) with the Ohio Department of Development recently honored Sensus (now Synergy US), a natural flavoring producer, for partnering with Wyandot Inc., a snack manufacturer, to develop a high-antioxidant/ high-anthocyanin, nutritiouspurple corn snack food.

With healthy choices in mind, customers are more often demanding quality, hormonefree ingredients, and exotic, natural flavors. And fast food groups are responding with unprocessed, balanced meals free from high-fructose corn syrup and artificial flavor. In response to the eat-locallyproduced-foods trend, a national company is now working with food brokers to integrate locally grown produce into their shipments. In Michigan where the company began testing its

The question Using a scale of 1 to 10, please rank the importance of revenue generating or cost savings innovations to your organization in the next two years

8.4—Government 8.21—Education

8.45—Food & Beverage 7.57—Financial institutions

7.86—Business and professional services 8.10—Health Care 8.25—Manufacturing

plantemoran.com

8.47—Not-for-profit

FOOD & BEVERAGE

locavore program, business doubled between 2008 and 2010.

The FDA is a full year behind on its efforts to implement the Food Safety Modernization Act

For ease of shopping, a New England supermarket recently introduced an app that allows smartphone users to scan, tally, and pay for their groceries on their phones. Adding to the sea of change, the industry is grappling with the Food Safety Modernization Act (FSMA), passed by Congress in January 2011. Itâ&#x20AC;&#x2122;s been almost 80 years since the industry saw such sweeping changes.

Thank YOU

Underfunded to implement the reforms, the Food and Drug Administration (FDA) is a full year behind schedule, and distraught consumer groups have taken the matter to court.

National Center for the Middle Market Researchers Ken Boyer, Aravind Chandrasekaran, John Gray CENTER FOR INNOVATIve FOOD TECHNOLOGY (CIFT) President Dave Beck

All of this is to say that it is understandable why the food & beverage industry has a keen interest in innovation. In this report we will share some insights into the best practices weâ&#x20AC;&#x2122;ve observed over the last two years studying innovation in all industries, and compare notes with best practices in the food & beverage industry. We also will take a look at food safety, the issue that tops the list of industry concerns. Regards,

Jeff Mengel Leader Plante Moran Food & Beverage Practice

FOOD and Drug Administration (FDA) Director of Public Affairs Catherine McDermott Produce Marketing Association (PMA) Director of Public Relations Meg Miller

Sysco Detroit Produce Manager Mike Chesley

Innovation UPDATE 2013

FDA finds implementation of food safety reforms is not a piece of cake. Prospects of additional costs trouble the industry. Conversation leaders Recently we polled leaders in the food & beverage industry on their innovation efforts as well as risk, operational, organizational, and financial issues.

SECTORS represented were: meats/proteins; processed goods; ingredients; confectionery; snacks; frozen foods; baked goods; produce and fruit; beer, wine and spirits.

70% 31%

held c-suite positions, 10 percent were on innovation teams, and the remainder had a range of responsibilities.

had net revenue of $51 million to $100 million;

24 percent had revenue from $10 million to $50 million; 21 percent had revenue from $101 million to $500 million; 14 percent had revenue of less than $10 million; and 10 percent had revenue greater than $500 million.

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here is a growing concern about food safety in general and in particular what comes next in the Food and Drug Administrationâ&#x20AC;&#x2122;s (FDA) efforts to implement the Food Safety Modernization Act (FSMA). There are funding controversies and court cases surrounding the FDAâ&#x20AC;&#x2122;s implementation of the sweeping reforms outlined in the FSMA. The old standards that were developed almost 80 years ago are being replaced by science-based rules designed to deal with the increasingly complex and global food supply. There is little debate that something has to be done to ensure food safety. The FDA reports 48 million people in the United States suffer from foodborne

FOOD & BEVERAGE

TOP 5

Food safety Logistics

Operational Issues

8.26

Sourcing of product and raw material

7.65

Capital investment and automation initiatives

(rated on a scale of 1-10)

Packaging and storage

TOP 5 Risk Management Issues

7.62 6.65

Employee safety

9.08

Product safety prior to delivery to end user

8.97

Commodity price fluctuation

8.18

Uninterrupted supply from vendors

(rated on a scale of 1-10)

7.62

Changing consumer trends

TOP 5

7.30

Commodity hedging 8.29 Escalating labor costs incl. fringe benefits

Financial Issues (rated on a scale of 1-10)

8.06

Inventory levels and fulfillment rates

7.70

Capital expenditures incl. repair and maintenance

7.68

Collection of receivable

illnesses, more than 100,000 are hospitalized, and thousands die every year. Food safety was also the No. 1 operational issue for Plante Moran survey participants; they gave it a 9.25 on a 10.0 scale. See chart above.

9.25

Industry leaders could feel caught in the middle. While the FDA tries to figure out how to implement FSMA rules, big customers like Walmart are moving ahead on industry developed standards like the PTI (Produce Traceability Initiative), a project of the Produce Marketing Association.

6.91

The FDA offers many reasons for the lagging implementation of FSMA, two of the major ones: â&#x20AC;˘ It needs more funding â&#x20AC;˘ Good rule making means giving the industry adequate time to comment

Innovation UPDATE 2013

{ continued from previous page }

On the funding issue, the FDA recently reported that it could not implement the FSMA without $400 to $450 million in additional funding. In response, the White House is proposing a $295 million increase for food safety in its 2014 budget with most of the funding to come from:

The FDA has published two proposed rules with estimated compliance costs exceeding $1 billion a year.

plantemoran.com

deadline (July 4, 2012) for issuing regulations in seven different areas, from production and harvesting of fruits and vegetables to sanitary transportation practices.

A month after the FDA missed the deadline, two consumer advocacy groups, the Center for Food Safety and the Center for Environmental Health, filed suit • Food import fees in the U.S. District Court for the • Food facility registration and Northern District of California. inspection fees Fueled by concern over outbreaks of salmonella in The import fee is expected cantaloupe and E.coli in to provide approximately spinach, the groups asked for $166 million and the registration an injunction “ordering the and inspection fee approximately FDA to promulgate all FSMA $59 million with Congress regulations as soon as reasonmaking up the difference. ably practicable, according to the court-ordered timeline.” Statistics on the number of inspections of imported foods When the judge ruled eight provide a dramatic example months later (April 22, 2013), of the FDA’s struggles to meet she found that the FDA has the standards of the FSMA. violated the FSMA and the Administrative Procedure Act Because 10 to 15 percent of by missing the deadlines and all food consumed in U.S. households comes from abroad, called on the FDA to propose a new schedule. As of print date, the FSMA set a goal for the the Center for Food Safety and FDA to do 19,200 foreign the FDA have filed separate inspections a year. In fiscal proposals to implement the 2011, the agency covered court order. 1,000 foreign facilities; in fiscal 2012 that went up to 1,200. The length of comment periods seems to be at the center of the It’s not just inspections that controversy. In January of this are lagging. The FDA failed year, the FDA published two to meet the congressional

proposed rules with estimated compliance costs exceeding $1 billion per year. By the end of the comment period on May 16, more than 750 groups had responded and the FDA extended the comment period to Sept. 16. Now it is with the judge to evaluate the implementation timelines presented by the FDA and the Center for Food Safety. Part of that timeline will be how long the FDA can solicit public comments both on the pending proposals and the many more that will follow before formulating all the rules called for by the FSMA.

IN ADDITION

FOOD & BEVERAGE

Sustainability is the next big issue. Are you ready? The following are excerpts from a conversation with Dave Beck, president of the Center for Innovative Food Technology (CIFT). CIFT facilitates development of innovaDAVE BECK tion technologies and solutions for the food processing, agribusiness, and agricultural sectors of the economy. It is funded by federal and state grants and membership fees. In a recent survey, leaders in the food & beverage industry said their biggest concern was food safety and regulations. There seems to be a lot of talk about the Food Safety Modernization Act (FSMA) in the United States, but isnâ&#x20AC;&#x2122;t there a global trend toward stronger food safety regulations? Food safety is a big issue and there is a range of certification programs. Just like ISO certification in the manufacturing industry, the food industry has SAF (Safe Quality Food) which is designed to meet the needs of buyers and suppliers worldwide. It is part of the Global Food Safety Initiative (GFSI) and is described as a seamless field-to-fork solution. The United States Department of Agriculture has mandatory Hazard Analysis and Critical Control Points (HACCP) programs for meat

Innovation UPDATE 2013

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and juice. HACCP is a preventive approach. It is designed to identify problems during the process. FSMA has the same emphasis. At CIFT weâ&#x20AC;&#x2122;re moving ahead. We see that in addition to safety, the food & beverage industry is going to have to get involved in sustainability. More and more international companies like Kelloggâ&#x20AC;&#x2122;s and Walmart are joining the movement to use science to develop a new generation of environmentally friendly, innovative products. We foresee when food producers are going to have to certify the carbon footprint as well as the safety of their products. CIFT is thinking about adding a lifecycle analyst to better serve our members. Can you give us an example of a sustainability project? Sure. For the last three years, the Innovation Center for U.S. Dairy has put out a sustainability report. The report includes information on energy audits that helps producers identify ways to lower energy costs and minimize environmental impacts. Likewise, it includes examples of processors optimizing their performance and developing new and innovative products; packaging companies developing lighter, more consumer and environmentally friendly packaging; and transporters improving fuel efficiency.

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This is the kind of information that is going to be important when big companies like the charter members of the Sustainability Consortium begin asking for sustainability certification. Innovation seems to be a big factor in the food & beverage industry and CIFT has a reputation as a very successful matchmaker between companies, bringing them together to collaborate on innovation. Can you share with us some of the factors that make a good match? I appreciate your comment about our success. But to set the record straight, I need to tell you that a high percentage of the collaborations that I suggest go nowhere. This matchmaking is a long process. Itâ&#x20AC;&#x2122;s going out there and learning about the companies and what they do, what they might need, and what they can share. CIFT offers a forum for industry people to share ideas. That aside, I guess I would have to say that size is a big factor in matchmaking. The company has to have the resources to support innovation and take new products to market, yet be nimble enough to work well with a partner. Usually that means smaller, but there are big international companies that are also looking for innovation partners.

FOOD & BEVERAGE

Successful innovators have a strategy that creates opportunities and grows revenue.

The Food & Beverage industry shows strong Innovation Activity

The survey respondents from food & beverage seemed to hear the pundits who say innovation will be the key growth driver for the industry in the next couple of years. On a scale of one to 10 they ranked innovation 8.45, just behind the beleaguered not-for-profit sector at 8.47 and well in front of manufacturing at 8.25 in general. Their top three reasons for innovating were to: • Improve quality of products, services, or processes • Increase market share within existing geography • Reduce cost per unit provided or produced They also show strong innovative activity with 79 percent producing new or improved products last year. Other indicators of a strong innovation culture within the industry – roughly 50 percent of food &

beverage respondents registered a trademark or implemented major marketing changes in the last three years; while more than 40 percent made significant strategic changes or implemented changes to the organizational structure. Like the top innovators across industries, the food & beverage respondents were driven by consumer demands. This is reactive, but within the industry there is significant interest in using digital, social, and mobile technologies to gain consumer insights, signaling efforts to get in front of trends. Looking at hurdles to innovation, the food & beverage industry, along with top innovators across industries, considers lack of talent its biggest hurdle to innovation. Admittedly, new talent can create dramatic change in a firm, but it should be remembered that

Innovation UPDATE 2013

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TOP 5

Reducing cost per unit provided or produced

Innovation Objectives

8.85

Increasing market share within existing geography

8.72

Improving quality of products, services, or processes

8.58

Increasing customer value-added experiences

(rated on a scale of 1-10)

8.46

Entering new market categories

Like the top innovators across industries, the food & beverage respondents Are driven by consumer demands.

analysis. For the other food & beverage respondents leadership is more important with strategy coming in second. This can indicate that innovation is dependent on individuals rather than woven into the fabric of the organization. Top innovators, it is said, have innovation in their DNA.

Also decision makers might consider listening to a researcher at the Wharton School who suggests that what employers describe as talent shortages are often failures to agree on salary or unwillingness to fund on-thejob training.

Perhaps collaboration also is in their genes because there appears to be a move toward partnering for innovation among top innovators in all industries.

Strategy is the main driver for top innovators according to our

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without structural change the new employees could be stifled quickly. To create an environment where new and experienced employees can thrive, it is important to incorporate innovation into the firmâ&#x20AC;&#x2122;s strategy, to have metrics to measure performance, and to reward success.

This could be the case in the food & beverage industry. Survey results indicate that the majority of companies in the industry budget less than 1 percent of revenue for innovation efforts. This lack of financial support could also indicate that innovation is not integral to company strategy.

8.18

Data collected in our innovation surveys proves that innovation is a growth driver. The top innovators, those that see it as a strategic focus, had a 100 percent improvement in revenue growth from new product introductions compared to the accidental innovators that took an entrepreneurial approach and seized opportunities rather than creating them. (For further discussion on the different categories of innovators, please see the next page: Are you a top innovator or a harvester?)

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FOOD & BEVERAGE

Are you a top innovator or a harvester? Based on data collected from 550 respondents across industries in 2012, Plante Moran analysts uncovered four categories of innovators: harvesters, accidental innovators, disciplined innovators, and top innovators. In comparison to other industries, the food & beverage industry had fewer harvesters and more top innovators, suggesting introduction of new products, processes, and services is critical to the viability of the industry. Harvesters are defined as companies that “harvest” rewards from past efforts and are not actively involved in research to improve and introduce new products, processes, or services. The largest segment of innovators in the food & beverage industry is accidental innovators. Frequently, accidental innovators are part of the management/ownership team and run a skunkworks-like process for innovation on top of their day jobs. They often lack performance expectations or a clear path toward commercialization. On the other hand, the disciplined innovators and the top innovators have processes in place to support innovation. The differences between the two are that top innovators have a strategy that focuses on innovation and they budget for it. More importantly, top innovators saw double the revenue generated from new product introduction within the last three years when compared to harvesters and accidental innovators. These classifications can serve as a self-improvement guide for firms that want to see more

Innovation in the Food & Beverage Industry Percentage of food & beverage in this category Percentage of revenue from product that did not exist three years ago

benefits from their innovation efforts. Moving forward you might want to think about some of the following characteristics of successful innovators:

• Entering new markets or expanding in existing markets is a major motivator for top innovators. And they put their money where their mouths are. All of the firms categorized as top innovators funded research to gain knowledge. None of the harvesters funded research. There is also a 100 percent likelihood that the top innovators will introduce a new product. Interestingly, even 60 percent of the harvesters will introduce a new product, but with much lower revenue generated.

• Perhaps more importantly, the top innovator is much more likely to implement a significant new strategy, organizational change, or management technique, while the harvester and accidental innovator appear to be more content with changes to marketing strategies and concepts. In other words, the package may change, but the content remains the same.

• Lastly, the top innovator is two to three times more likely to have a full array of metrics to monitor and measure innovation performance. As a result, they are also almost twice as likely to abandon a project. Failure to follow through on innovative ideas is the most expensive failure, but failure to recognize when a project should be abandoned is also painful. When you don’t have clear expectations for a project, it may continue or stall without any clear rationale.

50 40 30 20 10 0

Harvesters

Accidental Innovators

Disciplined Innovators

Top Innovators

Innovation UPDATE 2013

Middle market companies need to consider separating their manufacturing and R&D activities.

hen and why should a middle market company separate its research and development efforts from its operations? Among large firms, there is a consensus that separating R&D and manufacturing is the best way to maximize financial performance. This separation means that the organizations maintain distinct reporting structures, metrics, and incentives for manufacturing and research and development. Research on small, entrepreneurial firms indicates just the opposite. For them structural separation is not necessary and may even be detrimental. Where does this leave the middle market?

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Recent research at The Ohio State University commissioned by the National Center for the Middle Market (NCMM) looked at this question of whether, how, and when middle market firms should make the transition. In their summary, the authors write: â&#x20AC;&#x153;We believe that it is important for managers of middle market firms, as they grow, to understand that at some point they should begin to structurally separate manufacturing and R&D.

Outside events triggered separation The results of their research indicate that middle market firms often need a trigger to

FOOD & BEVERAGE

the most innovative companies are distinguished by the level of accountability they demand of their innovation teams. make them realize that using the same teams for R&D and manufacturing is hurting performance. Common triggers may be: â&#x20AC;˘ Diversification into multiple product categories â&#x20AC;˘ A notable decrease in performance â&#x20AC;˘ An ownership change (often precipitated by a decrease in performance) Based on case studies, the research team found that middle market firms with a narrow product focus can effectively use the same teams for R&D and manufacturing activities; in fact, they can find valuable synergies.

When firms expand their product categories, however, evidence indicates that using the same people for R&D and manufacturing starts to diminish performance. Also when they grow into businesses that are not central to their operations, middle market firms are better off outsourcing both R&D and manufacturing.

Using metrics to measure innovation

innovation studies finds that the most innovative companies are distinguished by the level of accountability they demand of their innovation teams. The authors of the NCMM paper and Plante Moran consultants will be offering a webinar this fall that will go into the research findings in more detail. Please check the NCMM and Plante Moran websites in late summer for more information.

Maintaining distinct reporting structures, metrics, and incentives for R&D seems to offer a good solution to firms serious about innovation. Plante Moran in its ongoing

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Innovation UPDATE 2013

weighing the pros and cons of open innovation The following are excerpts from a conversation with a scientist in the research and development department of a large food company investigating open innovation. He wishes to remain anonymous. There is a lot of talk about partnering or collaborating for innovation. Where does your company stand on this topic? We are accustomed to working with our suppliers on innovation, but now we’re trying to understand opportunities outside of our suppliers. We’re investigating open innovation. We’re looking at its pros and cons. We’ve worked with the Center for Innovative Food Technology (CIFT) to access technologies available but there are also many innovation intermediaries out there that we are exploring. In addition, we’ve looked into academia and industry experts, seeking opportunities to work or collaborate together. Where do you find academic researchers who fit with your research needs? We see their work referenced in publications or news articles. It’s important to reach out and develop a network and we’ve begun developing one. The challenge is to find the researcher best suited for a particular project. Actually this seems like a lot of work to manage research from so many different people. Is that a problem? Keeping track of the people and the vast amounts of information they produce is a challenge. A bigger challenge is setting up a system so that you can access the information you need when you need it.

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Does this mean that you integrate outside research into your ongoing internal research projects? Depending on the type of project, there might be aspects of it that do require such parallel involvement. But for closed-end executions, using outside research might not be in line with project objectives. Is intellectual property a concern? Who owns the findings? Intellectual property is of importance to us. But ownership would depend on the project aspect and scope. We make our expectations clear at the outset. Generally we want to make sure that project disclosures are not released through the use of non-disclosure agreements or joint-development agreements. Are you doing much research tying your products to the wellness trend? I’d say yes and no. We’re always sensitive to trends and how we approach them is based on company strategy, but we don’t make any health-related claims. However, we do make sure that we provide our customers with products containing wholesome ingredients.

FOOD & BEVERAGE

ABOUT the Authors The National Center for the Middle Market is the leading source of knowledge, leadership, and innovative research focused on the U.S. middle market economy. The Center provides critical data, analysis, insights, and perspectives to help accelerate growth, increase competitiveness, and create jobs for companies, policymakers, and other key stakeholders in this sector. Stay connected to The Center by contacting middlemarketcenter@fisher.osu.edu.

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Plante Moran is among the nation’s largest accounting, tax, and consulting firms and provides a full line of services for all sectors of the food & beverage industry. Plante Moran has a staff of more than 2,000 professionals in 21 offices throughout Michigan, Ohio, and Illinois with international offices in Shanghai, China; Monterrey, Mexico; and Mumbai, India. The firm has been recognized by a number of organizations, including FORTUNE magazine, as one of the country’s best places to work. This allows Plante Moran to recruit the best and brightest and guarantee service satisfaction. For more information, visit plantemoran.com.

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INDEX

Perspective

For the food & beverage industry innovation is essential to keep up with the growing alignment between food and wellness.

FDA finds implementation of food safety reforms is not a piece of cake. Prospects of additional costs trouble the industry.

Successful innovators have a strategy that creates opportunities and grows revenue.

Are you a top innovator or a harvester?

Middle market companies need to consider separating their manufacturing and R&D activities.

Weighing the pros and cons of open innovation

Sustainability is the next big issue. Are you ready?

For more information on Plante Moran’s food & beverage services, please contact: Jeff Mengel 312.602.3515 jeff.mengel@plantemoran.com plantemoran.com

audit • tax • consulting

Industry Surveys Foods & Nonalcoholic Beverages (Includes Agribusiness) Tom Graves, CFA, Packaged Foods Equity Analyst Esther Y. Kwon, CFA, Beverages Equity Analyst

DECEMBER 2012

Current Environment ............................................................................................ 1 Industry Profile .................................................................................................... 12 Industry Trends ................................................................................................... 14 How the Industry Operates ............................................................................... 33 Key Industry Ratios and Statistics ................................................................... 38 How to Analyze a Food or Beverage Company ............................................. 40 Glossary ................................................................................................................ 47 Industry References ........................................................................................... 49 CONTACTS: INQUIRIES & CLIENT RELATIONS 800.852.1641 clientrelations@ standardandpoors.com SALES 877.219.1247 msa@standardandpoors.com MEDIA Michael Privitera 212.438.6679 michael_privitera@ standardandpoors.com S&P CAPITAL IQ 55 Water Street New York, NY 10041

Comparative Company Analysis ...................................................................... 51 This issue updates the one dated June 7, 2012. The next update of this Survey is scheduled for June 2013.

Topics Covered by Industry Surveys Aerospace & Defense Airlines

Environmental & Waste Management

Natural Gas Distribution

Financial Services: Diversified

Oil & Gas: Equipment & Services

Alcoholic Beverages & Tobacco

Foods & Nonalcoholic Beverages

Oil & Gas: Production & Marketing

Apparel & Footwear: Retailers & Brands

Healthcare: Facilities Healthcare: Managed Care

Paper & Forest Products Pharmaceuticals

Autos & Auto Parts

Healthcare: Products & Supplies

Publishing & Advertising

Banking Biotechnology

Heavy Equipment & Trucks Homebuilding

Real Estate Investment Trusts Restaurants

Broadcasting, Cable & Satellite Chemicals

Household Durables Household Nondurables

Retailing: General Retailing: Specialty

Communications Equipment

Industrial Machinery

Semiconductor Equipment

Computers: Commercial Services Computers: Consumer Services & the Internet

Insurance: Life & Health Insurance: Property-Casualty

Semiconductors Supermarkets & Drugstores

Investment Services

Telecommunications: Wireless

Lodging & Gaming Metals: Industrial

Telecommunications: Wireline Thrifts & Mortgage Finance

Movies & Entertainment

Transportation: Commercial

Computers: Hardware Computers: Software Computers: Storage & Peripherals Electric Utilities

Global Industry Surveys Airlines: Asia Autos & Auto Parts: Europe

Foods & Beverages: Europe

Telecommunications: Asia

Media: Europe

Telecommunications: Europe

Banking: Europe

Oil & Gas: Europe

Tobacco: Europe

Food Retail: Europe

Pharmaceuticals: Europe

S&P Capital IQ Industry Surveys 55 Water Street, New York, NY 10041 E XECUTIVE E DITOR : E ILEEN M. B OSSONG -M ARTINES

A SSOCIATE E DITOR : C HARLES M AC V EIGH

S TATISTICIAN : S ALLY K ATHRYN N UTTALL

C LIENT S UPPORT : 1-800-523-4534. ISSN 0196-4666. USPS N O . 517-780. V ISIT THE S&P C APITAL IQ W EBSITE : www.spcapitaliq.com S&P CAPITAL IQ INDUSTRY SURVEYS (ISSN 0196-4666) is published weekly. Reproduction in whole or in part (including inputting into a computer) prohibited except by permission of S&P Capital IQ. To learn more about Industry Surveys and the S&P Capital IQ product offering, please contact our Product Specialist team at 1-877-219-1247 or visit getmarketscope.com. Executive and Editorial Office: S&P Capital IQ, 55 Water Street, New York, NY 10041. Officers of The McGrawHill Companies, Inc.: Harold McGraw III, Chairman, President, and Chief Executive Officer; Jack F. Callahan, Jr., Executive Vice President and Chief Financial Officer; John Berisford, Executive Vice President, Human Resources; D. Edward Smyth, Executive Vice President, Corporate Affairs; Charles L. Teschner, Jr., Executive Vice President, Global Strategy; and Kenneth M. Vittor, Executive Vice President and General Counsel. Periodicals postage paid at New York, NY 10004 and additional mailing offices. Postmaster: Send address changes to S&P Capital IQ, Industry Surveys, Attn: Mail Prep, 55 Water Street, New York, NY 10041. Information has been obtained by S&P Capital IQ INDUSTRY SURVEYS from sources believed to be reliable. However, because of the possibility of human or mechanical error by our sources, INDUSTRY SURVEYS, or others, INDUSTRY SURVEYS does not guarantee the accuracy, adequacy, or completeness of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. Copyright © 2012 Standard & Poor’s Financial Services LLC, a subsidiary of The McGraw-Hill Companies, Inc. All rights reserved. STANDARD & POOR’S, S&P, S&P 500, S&P MIDCAP 400, and S&P SMALLCAP 600 are registered trademarks of Standard & Poor’s Financial Services LLC.

CURRENT ENVIRONMENT Drought conditions impact food chain Extreme weather over the years has led to huge losses to life and assets. For agriculture, weather is an important factor. According to a report published by the United Nations’ Intergovernmental Panel on Climate Change, global warming has led to “change in some extremes” in the weather since 1950. Further, according to a report published by the House Committee on Natural Resources and the House Committee on Energy and Commerce titled “Going to Extremes: Climate Change and the Increasing Risk of Weather Disasters” in September 2012, nine of the top 10 warmest years globally have occurred since 2000. Another study by Dim Coumou, a climate scientist at the Potsdam Institute for Climate Impact Research in Germany, and a colleague, cites human-emitted greenhouse gases as the main reason for extreme weather since 2000. According to Coumou, climate changes caused the heat waves in Western Europe in 2003 and Western Russia in 2010. The Russian heat wave was thought to have destroyed 30% of that country’s grain harvest. Such extreme weather conditions have led to massive agricultural losses. In the US, the January–August 2012 period was the warmest on record since 1895, breaking the previous record set in 2006 by 1°F (Fahrenheit). July 2012 was the hottest month ever, with temperatures reaching 77.6°F, breaking the previous record of 77.4°F set in July 2006 and 3.3°F above the 20th century average. The unusual weather has been in place for more than a year: the period from August 2011 to July 2012 was the warmest 12 months experienced in the continental US since 1895. Drought conditions According to U.S. Drought Monitor, a weekly compilation of data gathered by federal and academic scientists, 65.6% of the United States was experiencing moderate to exceptional drought as of September 25, 2012 (a share that had fallen to 61.8% as of October 23, 2012). According to a report published by two House Committees (Natural Resources and Energy & Commerce), the 2012 drought is at par with the multiyear droughts of the 1930s and 1950s. We expect drought conditions in the US and dry weather in other parts of the world from Russia to Australia to reduce the supplies of agricultural crops. Drought has also likely started affecting the economy, including a drop in farm inventories due to hot and dry weather. Impact on farmers, other producers Drought has led to lower crop yields, resulting in reduced harvests. According to the US Department of Agriculture (USDA), as of October 16, 2012, 68% of winter wheat was in drought. A survey conducted by the government in September 2012 estimated the US average yield of corn at 122.8 bushels per acre, the lowest in more than 15 years. It expected soybean yields to drop by about 15% from the previous year. Drought has sparked a debate in Texas, as to whether the water in Lake Travis should be provided to rice-growing farmers or should be used to provide drinking water to cities. While some companies have developed drought-resistant seed, they have yet to be fully tested, though initial data are encouraging. DuPont, which has been developing drought-resistant corn seed (Aquamax), said in October 2012 that the seeds boosted yields by 8%. Lower supply led to higher prices for crops that survived the drought. However, livestock producers were hit hard, as crops to feed their animals (e.g., corn) became more expensive. Because of high feed costs, we think some livestock producers have sold animals for slaughter earlier than they otherwise would have, leading to higher supplies and lower prices than there otherwise would have been. However, we think that in 2013 there will be some upward pressure on livestock or meat prices due to lower supply. Insurance companies are expected to see a large number of crop-related claims, which could lead to some relief for farmers. According to an article dated September 13, 2012, published in Businessweek news, claims related to crop insurance in the US were expected to total $25 billion in 2012, versus $10.8 billion last year. Insurance companies could be further affected by lower premium collection, according to new guidelines from the INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

USDA. The agency made changes to the insurance program, allowing the farmers to pay lower premiums for corn and soybeans. Allied World Assurance Co. announced that it expected a record a loss of $40 million related to crop insurance in the third quarter of 2012. Impact on transportation Drought conditions lower the water levels in lakes and rivers, which can lead to periodic difficulties or closures to barge traffic. The depth of water near ports and shipping channels dictates how much cargo can be loaded on ships. According to an article published in the Chicago Sun-Times in October 2012, drought had lowered the water level by almost a foot in the Mississippi River; waterways in Illinois are used to transport more than 108 million tons of commodities, mainly grains and coal, to various states. Because barge transport is the cheapest way of shipping bulk goods, we expect that if lower water levels cause shipping problems, this could contribute to price increases for some commodities. Impact on manufacturers, consumers We think higher crop prices will lead to higher costs for food manufacturers. While some of this may be passed on to consumers, a portion of this is likely to be absorbed by packaged food companies. We anticipate that efforts to reduce costs in other areas will help. In addition, for various food manufacturers, ingredient costs are a relatively small part of the retail cost paid by consumers. In some cases, food-related companies may have to forgo revenue due to supply shortages. For example, Archer Daniels Midland Co. may be able to pass on higher corn costs to customers for products such as highfructose corn syrup; however, the company’s grain merchandising business may face more limited supplies, which would reduce export opportunities.

CROP SIZES VARY In November 2012, the USDA projected that US corn crop production would be 10.7 billion bushels for the 2012–13 marketing year, down sharply from the early season forecast of 14.8 billion bushels and down 13.2% from the 12.4 billion bushels STOCKS*-TO-USE RATIO estimated for 2011–12. The USDA also projected US soybean production at about 20 2.97 billion bushels, down 4.0% from the 18 Chart H04: amount estimated for 2011–12. 16 STOCKS*-TO14 USE RATIO The USDA was forecasting that US 12

planting acreage for corn in the 2012–13 season would be up about 5.4%, while acreage for soybeans would be up about 6 2.9%. The yield for corn was expected to 4 2 decline 16.9% in 2012–13, to 122.3 0 bushels per acre, and the soybean yield 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 2012-13 was forecast to decline 6.2%, to 39.3 Corn Soybeans bushels per acre. According to the USDA, the projected sharp decline for corn yield *Ending stocks. reflects the expected effect of drought. Source: US Department of Agriculture. However, while the drought affected the expected size of the harvest, excessive heat led to early harvest of both the corn and soybean crops, which we think contributed to some decline in prices. 10

Crop prices may have peaked While US corn and soybean production is expected to be lower in the 2012–13 season, we believe that prices may have peaked. As of December 21, 2012, the corn price at the Chicago Board of Trade for the March 2013 futures contract was $7.02 per bushel, down about 17% from the 2012 high. The price for the March 2013 soybean contract, at $14.29 per bushel, was also down about 17% from the 2012 peak. For soybeans, we think the price decline was partly due to an upward revision in expected yield for the 2012–13 crop. In 2

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

November 2012, the USDA increased the US soybean production forecast to 2.97 billion bushels, versus its September 2012 forecast of 2.63 billion bushels. Similarly for corn, we think the US crop may have been looking better in late 2012 than some had previously anticipated. US COMMODITIES PRICES - - - - - - - 2009 - - - - - - - - - - - - - - 2010 - - - - - - APR.

OCT.

APR.

OCT.

- - - - - - - 2011 - - - - - - - - - - - - - - 2012 - - - - - - APR.

OCT.

MAR.

SEP.

AGRICULTURE INPUTS

Wheat (¢/bushel) Corn (¢/bushel) Soybeans (¢/bushel) Soybean oil (¢/lb.) Sugar (¢/lb.) Milk ($/cw t)

B09: US 612.8 382.3 COMMODITIES PRICES 1,011.2 32.8 15.7 11.9

504.5 343.3 960.1 33.1 22.6 14.2

496.8 350.8 958.7 37.1 19.3 14.6

744.0 560.0 1,113.0 44.0 37.0 18.5

933.0 734.3 1,350.2 56.6 27.4 19.6

806.5 640.8 1,181.6 51.7 27.8 19.6

765.0 643.0 1,347.2 53.4 24.7 18.6

982.5 758.0 1,681.5 53.8 19.6 17.5*

870.0 755.0

855.0 757.5

945.0 855.0

1,040.0 910.0

1,030.0 920.0

1,030.0 880.0

Crude oil ($/barrel) 51.1 77.0 86.2 81.4 Natural gas ($/mil. Btu) 3.7 3.5 3.9 3.5 *Data for May 2012. Sources: US Department of Agriculture; Pulp & Paper Week; Wall Street Journal.

113.9 4.2

93.2 3.6

103.0 2.2

92.2 2.8

PACKAGING INPUTS

Unbleached kraft board ($/ton) Recycled folding boxboard ($/ton) ENERGY INPUTS

Supply and demand for crops  Corn. In November 2012, the USDA was forecasting ending stocks for US corn supplies at 647 million bushels for the 2012–13 marketing year, down 53% what was estimated for 2011–12, which we attribute primarily to expected lower production. Demand for US corn was expected to decline 10.9% to 11.2 billion metric tons in 2012–13, due to forecast declines in all principal categories, including exports. The USDA forecast corn prices to be in the range of $6.95–$8.25 per bushel in 2012–13, versus an estimated $6.22 per bushel for 2011–12. Worldwide production of corn was forecast to decline 4.6% in 2012–13, and worldwide ending stocks of corn were expected to decline 10.7% to 118 million metric tons  Soybeans. In November 2012, the USDA was forecasting US soybean production at 2.97 billion bushels in 2012–13, down 4.0% from what was estimated for 2011–12. Demand was expected to be down 4.2%, to 3.02 billion bushels in 2012–13. USDA forecast the US soybean price to be in the range of $13.90–$15.90 per bushel in 2012–13, versus an estimated $12.50 per bushel in 2011–12. Worldwide production of soybeans in 2012–13 was expected to increase 11.9%, to 267.6 million metric tons, and endings stocks were expected to rise by 7.2% to 60.0 million metric tons.  Wheat. As of November 2012, the USDA was forecasting US wheat production at 2.27 billion bushels in 2012–13, up 13.5% from what was estimated for the prior year, while demand was expected to be up 9.3% from 2011–12. The USDA expected the US wheat price to be $7.75–$8.45 per bushel in 2012–13, up from an estimated $7.24 per bushel in 2011–12. Worldwide wheat production was forecast at 651.4 million metric tons in 2012–13, according to the USDA, down 6.4% from 2011–12, and ending stocks were forecast to decline 12.0%, to 197.9 billion metric tons. USDA forecasts for meat and chicken The USDA projected in December 2012 that US production of beef would decline by 1.2% in 2012 and 5.0% in 2013. For pork, the USDA projected a 1.8% rise in US production, followed by 1.7% decline in 2013. For broiler chickens (a type of poultry bred for its meat), the USDA projected a 0.7% production decline for 2012, followed by a further 1.4% decline in 2013. Based on October 2012 USDA forecasts, the US would account for a leading 20.5% of world beef and veal production tonnage in 2012, followed by Brazil (16.1%) and the European Union (13.7%). Meanwhile, China would account for a leading 49.3% of world pork tonnage, followed by the European Union (21.8%) and the US (10.1%). Also based on October 2012 USDA forecasts, the US would account for INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

20.0% of world broiler production in 2012, followed by China (16.6%) and Brazil (15.5%). The US was expected to be among the largest exporters of both broilers and pork.

MIXED PROFIT ENVIRONMENT FOR US FARMERS We think rising US farm income in 2011 encouraged and enabled increased spending on new equipment and supplies for future harvests. We also think that the value of US farmland has been increasing more than that of other US real estate. According to the USDA, net farm income (including non-cash items) totaled a record $117.9 billion in 2011, up 47% from the year before. In November 2012, the USDA was forecasting a 3.3% decline in farm income to $114.0 billion in 2012, which would still be substantially above the estimated average for the prior 10 years. The USDA forecast that cash receipts of the US farm sector would total $385.5 billion in 2012, up 3.0% from $374.3 billion for 2011. In 2012, crops would represent $216.6 billion (up 4.0%) of the receipts, with corn accounting for about 30% of the crop total, and soybeans representing about 19%. In November 2012, the USDA projected that livestock receipts would total $169.0 billion in 2012, up 1.8% from the year before. Sales of meat animals were estimated at $86.9 billion (up 2.7%), while poultry and eggs were expected to total $39.0 billion (up 7.1%), and dairy receipts were projected at $37.0 billion (down 6.3%). After including other farm-related sources and direct government payments, the USDA forecast gross cash income of $431.3 billion in 2012, up 5.0% from the previous year. The USDA projected that cash expenses would reach $298.5 billion in 2012, a rise of 8.1% from 2011. This led to projected net cash income of $132.8 billion in 2012, down 1.4% from that of the prior year. In 2011, the USDAâ&#x20AC;&#x2122;s index of crop prices received by farmers was up 12% from that of the prior year, while we think farmersâ&#x20AC;&#x2122; crop production costs increased at a slower pace. In November 2012, the crop price index was also up 12%, year over year. Indices have also been up for livestock producers, helped by lower US production levels. In October 2012, the USDA reported that prices for meat animals were up 1.3% from a year earlier, dairy product prices were up 5.9%, and poultry & egg prices had increased 10%. For all farm products, prices in October 2012 were up 13.5%, year over year, lagging a 7.3% rise in the cost of all items used in farm production. We think there has been cost pressure on livestock producers in recent years from feed grain (e.g., corn) costs. As of November 2012, the USDA feed grains and hay price index was up 15% from a year earlier. Higher feed costs could lead to livestock being slaughtered somewhat sooner than they would have been otherwise. Changes in supply are likely to happen faster with chickens, which have shorter breeding cycles, than with hogs and cattle. US farmers are benefiting from relatively modest labor cost pressure, in our view. In November 2012, wage rates were up about 5.2% from a year earlier. However, the interest cost index was up 7.4%. Looking ahead, we think tighter immigration controls and enforcement could reduce the supply of farm labor available in the US. According to the Labor Department, more than 1.4 million people were employed as field workers in the US each year, more than half of which are working illegally. Uncertainty regarding federal programs As of late 2012, the US Congress had yet to replace a multi-year federal farm bill that expired on September 30, 2012. Such legislation addresses a variety of agriculture- and food-related matters. With no new farm bill in place, there is uncertainty about the fate or shape of a number of federal programs. In June 2012, the Senate approved a farm bill that could have led to $23.6 billion of savings in the next 10 years. The biggest change under the bill was replacing the direct payments to farmers for not planting a crop with a program that pays farmers in case their revenues fall below historic levels due to falling prices or yields. The bill would also have shifted the agriculture safety net to crop insurance and would have aimed to 4

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reduce abuse of food stamps. Other provisions included extending a program of domestic market quotas and import restrictions on sugar. In July 2012, the House Agriculture Committee passed a similar bill, which could have led to spending cuts of $35 billion. Meanwhile, in January 2012, the federal tax credit on ethanol expired. For more than 25 years, the US government had provided a subsidy on ethanol-mixed gasoline. In our view, use of corn-based ethanol continues to provide support for corn prices. According to the USDA, approximately 40% of the US corn crop is used in the production of ethanol and byproducts (including animal feed).

CONTINUED STRONG DEMAND FOR US AGRICULTURAL EXPORTS In November 2012, the USDA reported that agricultural exports totaled $135.8 billion in the fiscal year ending September 2012, down 1.2% from a record $137.4 billion the year before. With imports rising 9.4%, to $103.4 billion, the US had an agricultural trade surplus of $32.4 billion US FOREIGN TRADE IN FOOD PRODUCTS (In billions of dollars) for fiscal 2012, down 24% from fiscal 2011. (We note that the US has 140 consistently shown a positive trade Chart H03: US 120 balance—that is, exports higher than FOREIGN imports—with agricultural goods.) We 100 TRADE IN believe that some of the rise in world FOOD 80 trade was attributable to higher PRODUCTS 60 agricultural prices. 40 20 0 2002 03

Imports *Through August. Source: US Department of Agriculture.

Exports

2011*2012*

In November 2012, the USDA forecast that agricultural exports would total a record $145.0 billion in fiscal 2013, up about 7% from fiscal 2012. With an estimated increase in imports of about 11%, to $115.0 billion, the trade surplus would decline about 7%, to $30.0 billion.

In November 2012, the USDA said that agricultural exports to China (likely excluding Hong Kong) totaled about $23.4 billion in fiscal 2012, up about 18% from the year before, and constituting 17.2% of total agricultural exports. Exports to Canada and Mexico were accounted for about 14.7% and 13.9%, respectively. For fiscal 2013, the USDA forecast that exports to China would decline to $21.2 billion, and that exports to Canada and Mexico would be $21 billion, and $19 billion, respectively. We see world trade being a key factor in moving food supplies to where they are needed. Trade barriers (i.e., protectionism) remain a prospective threat to agricultural trade. However, recently we have seen some easing in trade barriers. In March 2012, the US–South Korea free trade agreement came into effect, which would reduce tariffs between the countries. The significance of Asia in world trade is indicated by the US agricultural exports to China (including Hong Kong), which totaled about $22 billion in calendar 2011, more than seven times the $3.0 billion in 2000, according to the USDA. China was the largest US agricultural export market in 2011, and accounted for about 16% of such US exports, up from 5.8% in 2000. In calendar 2011, the top 25 agricultural export commodities had a value of $101.4 billion, led by soybeans ($17.5 billion), corn ($13.7 billion), and unmilled wheat ($11.1 billion). In comparison, the value of exported pork and chicken was $4.7 billion and $3.4 billion, respectively. Among agricultural commodity imports, the four largest in 2011, based on dollar value, were led by coffee products ($8.1 billion), wine ($4.8 billion), and rubber/allied gums ($4.8 billion).

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FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

GLOBAL FOOD PRICES In November 2012, the FAO’s Food Price Index, which combines five commodity group indices, was down 2.5% from a year earlier and down 11% from its February 2011 peak. However, it was up 5.2% from June 2012, which we attribute at least partly to the summer 2012 drought in the US.  The Cereals index was up 12% from a year earlier, though still down 6.7% from the monthly peak reached in April 2008;  The Dairy Price index was down 3.0%, year on year, and down 27% from its peak in November 2007;  The Sugar Price index was down 19%, year on year, and down 35% from its January 2011 peak;  The Meat Price index was down 3.5% from a year earlier (November 2011 was its peak);  The Oils Price index was down 15%, year on year, and down 30% from its June 2008 peak. The FAO said in November 2012 that food prices for the first 10 months of 2012 averaged 8% below what they were in the year-earlier period. In addition, the FAO said that global expenditures on food imports were forecast at $1.14 trillion in 2012, down 10% from the year before. The FAO added that improved international coordination and market transparency had helped to keep the worst drought in decades from “turning into a food price crisis.” Nevertheless, as of November 2012, the FAO was expecting a 2.7% fall in world cereal production (wheat, coarse grains, and rice) in 2012–13, compared with the record crop estimated for the prior year. The overall decrease of 2.7% in world cereal production would reflect a 5.5% reduction in wheat and a 2.5% reduction in coarse grain, while rice production was expected to rise 0.7%. The FAO also forecast that world cereal inventories’ stocks for marketing or crop seasons ending in 2013 would be down 4.8%. This would put the stocks-to-use ratio for 2012–13 at 20.6%, down from an estimated 22.6% for 2011–12 and 21.7% in 2010–11. Over time, as the world’s population grows, we expect that producers will increasingly be looking to new technologies, such as genetically modified foods, to increase production. Already, biotechnology is producing seeds that can help to make crops resistant to herbicides or disease. In addition, the food supply could be improved if waste were reduced. According to the US Environmental Protection Agency (EPA), Americans discarded 34 million tons of food in 2010 (latest available), making food the single largest category of solid waste in US municipal landfills and incinerators (after paper). In the more industrialized countries, we think food losses occur mostly at the consumer level, partly because food expense is a relatively low percentage of income. In less developed countries, we think food losses are more likely to occur at the distribution level due to inadequate infrastructure and storage facilities, poor transportation, and inefficient supply-chain logistics.

RETAIL PRICES RISING

CHANGE IN CONSUMER PRICE INDEXES FOR FOOD (Year-to-year percent change) 2009

2010

2011

2012*

Food at home 0.8 Cereal & bakery products 3.4 B01: Meats, poultry, fish CHANGE & eggs 0.1 INproducts CONSUMER(6.0) Dairy & related Fruits & vegetables (1.9) PRICE Nonalcoholic beverages INDEXES FOR 2.1 Sugar & sw eets 5.4 FOOD Fats & oils 2.8 Other prepared foods 3.9 Food aw ay from home 3.3

0.0 (1.0) 1.4 0.7 (0.1) (1.1) 2.4 (0.9) (0.6) 1.5

4.8 3.9 7.4 6.8 4.1 3.2 3.3 9.3 2.3 2.3

2.3 2.8 3.3 2.0 (1.0) 1.1 3.5 6.2 3.4 2.4

All Food 1.9 *Data through August. Source: US Bureau of Labor Statistics.

0.7

3.7

2.4

Consumer food price inflation has been moderating. In the 12 months ended November 2012, overall food prices were up 1.8% from the year-ago period, including a 1.3% increase for athome food, and a 2.6% rise for away-from-home food, according to the US Bureau of Labor Statistics. However, according to a USDA forecast in December 2012, overall consumer food cost inflation was expected to rise 2.25%–2.75% in 2012 and 3.0%–4.0% in 2013. In calendar year 2011, overall consumer food prices rose 3.7%, versus 0.8% growth in 2010, according to the USDA. Looking back over a longer period, retail food prices have been relatively

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benign, rising about 2.5% annually, on average, from 1997 through 2009. However, volatility has increased in recent years. Within the food-at-home categories, some of the steepest price increases in 2011 were in fats and oils (up 9.3%), and in eggs (up 9.2%). The meats category was up 8.8% (including a 10.2% rise for beef and veal, and 8.5% for pork). The carbonated beverages category continued its longer-term trend of decline and market share loss in 2011, after gaining share as consumers traded down to lower-cost options in 2009. According to the Beverage Marketing Corp., a beverage industry consulting firm, the US liquid refreshment beverage market (a category that includes bottled water, carbonated soft drinks, energy drinks, fruit beverages, ready-todrink coffee and tea, sports beverages, and value-added water) rose 0.9% in volume in 2011, but carbonated beverages lost 1.7%. Higher-priced and sometimes healthier categories—such as energy drinks (up 14.4% in 2011), ready-to-drink coffee (+9.4%), sports drinks (+8.8%), ready-to-drink teas (+4.8%), and bottled water (+4.1%)—all either reversed their prior declines or accelerated, and outperformed the overall beverage industry in 2011. Of note, the more economically sensitive and profitable single-serve and fountain business has improved for the beverage companies. We expect these trends to continue as the economy rebounds.

ECONOMIC ENVIRONMENT REMAINS SOFT Although economic conditions have improved from the depths of 2009, we expect consumers to remain cautious. Unemployment remains relatively high, and we think there is still a heightened sense of job insecurity among people who are working. We expect that some of the frugal behavior adopted in recent years will remain in place. This includes more eating and cooking at home, purchasing less expensive private label products, increased use of discount coupons, and more interest in community or home gardens. In addition, we think that the use of new media (e.g., social networks, iPhones) is here to stay and will have a growing impact on consumer behavior and companies’ marketing efforts. According to the US Bureau of Labor Statistics (BLS), the US unemployment rate stood at 7.7% in November 2012, which was an improvement from the recent monthly peak of 10.1% in October 2009, but still much higher than the 4.4% rate in May 2007. Based on BLS data, the number of unemployed people totaled 12.0 million in November 2012, down from 13.9 million at the end of 2010. The long-term unemployed continue to be a significant part of the unemployment picture: as of November 2012, 4.8 million people had been unemployed for 27 weeks or more, representing 40.1% of the total unemployed. Women represent a large portion of the civilian work force. While we are not dismissing the ability of men to help with food preparation, we think that working women are still likely to be carrying much of the food and child care responsibilities in various households. We expect that this has contributed to purchases of prepared foods or items that parents or their children can easily heat up in a microwave oven. In December 2012, Standard & Poor’s Economics (which operates separately from S&P Capital IQ) projected that the US economy would grow 2.2% (inflation-adjusted) in both 2012 and 2013, following growth of 1.8% in 2011. It also expected that the unemployment rate would average 8.1% in 2012 and 7.7% in 2013, versus 8.9% in 2011.

IMPACT OF SOFT ECONOMY ON CONSUMER BEHAVIOR The combination of a weak economy and higher prices has spurred some changes at the consumer level. In some categories, we see cost-conscious consumers trading down to less expensive products, often in the form of store-brand private label foods. We also expect a further shift in where people shop, with consumers cutting down their visits to malls and doing more shopping online and at discount stores and warehouse clubs. Smaller package sizes seem to be gaining popularity, both for health and economic reasons. Finally,

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FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

we think consumers are utilizing online resources, including social media, to better ensure that they are making their purchases at the best available prices. Private label products have appeal We think a price-gap advantage for private label products should work particularly well in a weak economy. According to the 2012 Food & Health Survey released in May 2012 by the International Food Information Council (IFIC) Foundation, price is almost as important an influencer of purchase decisions as taste: 73% of consumers said price influenced their decision to buy, although 87% of consumers still consider taste as the top consideration. According to SymphonyIRI Group, a research and consulting firm, private label products were priced 29% lower, on average, than non–private label brands. With the price advantage already in place, we think that increased sampling and favorable quality impressions of private label goods in recent years will bolster sales of such products. Apart from pricing, we think the number and variety of organic, natural, and higher-end products by the private labels, plus more colorful packaging, have boosted demand for such products. In May 2012, industry research firm NPD Group Inc. reported that private label products accounted for 27% of household food and beverage servings in 2011, up from 18% in 2000. NPD reported that two-thirds of adult consumers said that store brand quality has improved in recent years. However, NPD also said that according to a recently released report, intent among adult consumers to purchase more private label foods declined between 2009 and 2012. We think this suggests that food companies’ efforts to differentiate their products and bolster brand loyalty for non–store label brands is having some success. The Private Label Manufacturers Association, a trade group representing manufacturers and suppliers of store-brand food products, reported that for the 52-week period ending December 24, 2011, store brands (i.e., private label products) accounted for about 23.6% of all unit sales and about 19.5% of all dollar sales for products purchased at supermarkets. In supermarkets, sales of store brand products increased by 5.1%, compared with a 2.0% increase in non–private label products. Sales of store brands in US supermarkets, drugstores, and mass merchandisers totaled $92.7 billion. Furthermore, according to the Nielsen Co., store brands now account for one out of every four items sold in supermarkets, drugstores, and discount stores. Overall, we think the balance of power has shifted toward large retailers (away from large manufacturers), with likely pressures including price rollbacks. In beverages, we see more value-size offerings, particularly at the all-important $0.99 per unit level, as manufacturers look to rejuvenate growth in the more profitable and impulse-driven convenience channel, as well as more special multipack offerings. In September 2011, Coca-Cola launched an even smaller size at $0.89 per unit. We think that manufacturers prefer promotions (which are one-time events) to longer-term price reductions, to ease pressure on the perceived value of their brands. Companies have also become more sensitive to the paycheck cycle: PepsiCo, for example, has tilted its more aggressive promotions toward the end of the month, when consumers have less in their wallets. Meanwhile, Wal-Mart should have major influence, as it accounts for 10%–20% of sales for various packaged food manufacturers. In our view, the growth of private label reflects diminishing loyalty to higher-priced nationally branded food products, and puts additional pressure on manufacturers to protect market share through such means as promotions or product innovation. In general, we would expect private label brands to pick up more market share from second- or third-tier branded food companies than they do from the category leaders. One reason, in our view, is that top-tier branded companies have more financial resources—including increased marketing dollars and new product development outlays—to protect their market share. We think many non–private label manufacturers are looking toward new products that emphasize health and wellness in home-based eating and drinking. In our view, spending on product innovation and marketing are two key ways that such companies can try to fend off competition from private label products.

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INDUSTRY SURVEYS

Promotional activities such as lowering prices are a competitive option for non-private label manufacturers. However, although such measures can bolster sales volume, there is a risk of hurting the perceived value of the product. Further, a reduction in price can also squeeze the profit margin for the manufacturer. With the increased popularity of private label products in consumers’ shopping lists, we think manufacturers are using advertising dollars to better differentiate their brands in consumers’ minds and to encourage brand loyalty. However, not all categories of food and beverage products are equally threatened by the shift toward private label brands. Based on information from research firms Nielsen and SymphonyIRI, we think private label tends to fare better in categories such as dairy products and bread, but other areas, such as ready-to-drink tea/coffee and carbonated soft drinks, are much less affected by store brands. Greater economic pressure on middle- and lower-income consumers We think the economic downturn and persistently high unemployment levels have put greater cost pressure on middle- and lower-income consumers, who spend a larger percentage of their income on food and beverages. Participation in the federal government’s Supplemental Nutrition Assistance Program (SNAP), which allows lower-income consumers to purchase food at lower cost from authorized stores, has increased significantly in recent years, standing at 46.7 million (preliminary) in July 2012, up from 19.1 million in 2002. Lower- and middle-income consumers may feel pressure if a new farm bill reduces spending on SNAP. We also see an increased preference toward coupons and store loyalty programs. The “REDcard Rewards” program by the discounter Target Corp., for instance, has gained in popularity with shoppers. The card offers a 5% discount on in-store and online purchases. Similarly, Big Lots Inc. launched its “Buzz Club Rewards” program in the fall of 2009, which had over 11.5 million members as of January 2012. These loyalty programs could be good for both the discount stores and the customers. We think some consumers are likely to be showing greater preference for smaller package sizes. Buying smaller units of beverages and/or food products reduces the strain on the wallet. Smaller package sizes also lower the potential calorie intake, which we think is gaining in importance among Americans. As an example of new packaging, Coca-Cola introduced a 12.5-ounce bottle in September 2011 priced at $0.89, following the launch of a $0.99 16-ounce bottle in 2010. The company has also reduced the size of its cans in the eight-can pack from 8.0 ounces to 7.5 ounces to bring the calorie count below 100. Many US adults live alone, and if this number increases, it builds a case for the move toward smaller package sizes.

COMPANIES LOOK OVERSEAS FOR GROWTH With considerable competition in the relatively mature US food market and limited population growth expected, major food manufacturers are turning to the emerging markets in Asia and Eastern Europe. We look for markets such as China, India, and Brazil to offer good long-term opportunities for higher sales and profits. We believe income growth, combined with lifestyle and dietary changes, along with the extensive reach of electronic media, will increase the appeal of packaged goods that are so popular in developed markets such as the US and Western Europe. Various food and beverage companies have spoken of growth in emerging markets, and we think international opportunities are being reflected in acquisition activity. For example, in December 2011, Coca-Cola acquired a roughly 50% stake in Aujan Industries Co., one of the largest independent beverage companies in the Middle East, for $980 million. Aujan, which had revenues of $850 million in 2010, has a portfolio containing fruit juice brands Rani, Vimto (a fruity drink popular during Ramadan), and malted beverage Barbican. In February 2011, PepsiCo paid $3.8 billion to acquire a 66% stake in the Russian company Wimm-Bill-Dann Foods OJSC, which it increased in September to 100%. Wimm-Bill-Dann Foods produces dairy products, juices, mineral water, and baby food. Previously, in 2008, Pepsi had bought a 75% stake in the Russian juice company JSC Lebedyansky. With these deals, Pepsi aims to expand its presence in the emerging Eastern European and Central Asian markets. (These deals are covered in more detail in the “Industry Trends” section of this Survey.)

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

Besides merger and acquisition deals, bigger players are also planning large investments in emerging markets such as India and China. In July 2012, Coca-Cola announced that along with its bottling partners, it would invest $5 billion in India by 2020—a significant increase from its earlier plan to invest $2 billion. The company plans to invest in increasing bottling capacity, expanding distribution, and brand building. CocaCola had already invested $2 billion in India in the last two decades. In August 2011, the company had disclosed its plans to invest over $4 billion in China over the next three years. The company aims to double its revenues by 2020, and China’s market will play a major role in this expansion. PepsiCo also has expansion plans targeting China: in July 2012, it announced that it would invest $2.5 billion in China; it aims to become largest food and beverage company in that market. The company has also planned to open a research and development plant in Shanghai that would help in developing products tailored to local tastes. We think a rising middle-class population in Asia is the key growth driver in the Chinese and Indian markets. In August 2011, the Asian Development Bank (ADB) said, “The emerging middle class consumers of Asia, especially in the PRC (People’s Republic of China) and India, can become the next leading global consumers, and assume the role that the American and European middle classes have traditionally played in the world order.” According to ADB data, the middle class consists of 274 million people in India and 817 million people in China. In 2008, consumers in Asia accounted for around a third of OECD consumption expenditures, according to the ADB. By 2030, they are expected to account for about 43% (or $32 trillion) of such expenditures. In addition, we think there is potential for future consumer spending growth in Africa, and that this is contributing to investment there. For example, in June 2011, retailer Wal-Mart acquired a majority stake in the South African retailer Massmart Holdings Ltd. to expand in Africa.

2013 FOOD AND BEVERAGE INDUSTRY OUTLOOK We anticipate a mixed profit picture for the US food and beverage industries in 2013. In our view, volatile commodity prices continue to pose a challenge for food manufacturers, as they seek to find an optimal balance between their ingredient costs, the prices they charge for their products, and the volumes they sell. We anticipate generally good cash flow from larger food and beverage companies, some of which we think will be used to support dividends and stock repurchase activity. We also expect that companies will look to bolster earnings and cash flow with cost-reduction or restructuring programs. When faced with higher commodity costs, manufacturers have a variety of choices. One tactic is attempting to pass on the costs by raising the prices they charge for their finished products. However, this may generate resistance from retailers and consumers, and lead to market share loss, especially if their competitors are offering similar goods at lower prices. Alternatively, manufacturers can look to absorb the input cost pressure, and possibly offset some of it through cost reductions elsewhere (e.g., manufacturing efficiencies). If they are wary that commodity costs will continue to rise, manufacturers may increasingly look to lock in their raw material costs at price levels below those in the spot market, through such means as futures contracts (i.e., arranging for future delivery of a certain commodity at a specified price). However, by doing so, they risk the possibility that commodity prices will decline instead, leaving them with high-cost contracts. In 2013, we expect major beverage manufactures to continue to raise prices to offset higher commodity costs, but at a diminishing rate. Manufacturers are likely to remain keenly focused on cost reductions and productivity efforts, but we see a greater emphasis on increasing the variety of package sizes and configurations to help hit specific price points that cash-strapped consumers find attractive. With the launch of several mid-calorie carbonated beverages over the past year, we expect more innovation involving natural and low-calorie sweeteners. Finally, we expect convenience stores, gas stations, dollar stores, and club stores to become an increasingly important channel of distribution for these companies. We look for higher price increases in juices: commodity input costs represent a greater percentage of the cost of this product, and volumes have fallen because consumers remain very price sensitive. As an offset,

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S&P sees more product line extensions that offer health benefits, such as more natural ingredients, fewer calories, and other enhancements, where consumers are likely to pay more for more “value.” Sellers of low-end or less expensive products are likely to benefit from ongoing consumer trade-down and price sensitivity, while we think sellers of high-end products should continue to be helped by upper-income customers being mostly less sensitive to economic softness. In general, we expect sellers of mid-tier products to fare less well. We think that gasoline prices being higher than they were a year ago is a limiting factor, especially for more discretionary consumer purchases. We view strength in the US dollar relative to foreign currencies as generally being unfavorable to sales and earnings prospects for the multinational food and beverage companies. A stronger dollar should make US goods less affordable in markets with weakening currencies, and should also cause international results for US multinationals to be translated back into fewer US dollars. However, the direction of currency exchange rates varies around the globe; thus, while the dollar is strengthening against one currency, it may be weakening against another. The impact of currency fluctuation on various companies will depend on a number of factors, including what their most important international markets are, and to what extent US companies have hedges in place (e.g., through futures contracts), which can help them to lock in exchange rates. Overall, we expect currency fluctuations to be unfavorable to US food and beverage companies in 2013. Longer term, we believe the packaged food and beverage industry will focus on consumer lifestyles, tastes, health considerations, and demographics, including both opportunities in developing international markets and the interests and needs of an aging US population. We think industry growth opportunities will include introduction and distribution of products that appeal to consumers’ interest in healthier eating. 

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY PROFILE Foods and beverages: a global industry Food and beverage choices abound for the US consumer. Taste, comfort, and nutrition are just a few of the factors that influence the manufacture and purchase of numerous consumable items, most of which are sold to consumers through retail channels. US SPENDING ON FOOD PRODUCTS (In billions of dollars) - - - - FOOD EXPENDITURES - - - B35:AWAY US YEAR

FROM SPENDING ON AT HOME HOME TOTAL FOOD

2011 654.4PRODUCTS 588.9 1,243.3 2010 617.5 561.8 1,179.3 2009 600.4 541.4 1,141.8 2008 603.0 543.7 1,146.7 2005 530.1 469.9 1,000.0 2000 428.8 359.2 787.9 1995 357.1 280.2 637.3 1990 312.9 222.3 535.2 1980 179.7 103.1 282.8 1970 74.8 33.8 108.6 1960 50.3 16.2 66.5 Source: US Department of Agriculture.

- - - % OF TOTAL - - AWAY AT HOME

52.6 52.4 52.6 52.6 53.0 54.4 56.0 58.5 63.5 68.9 75.7

FROM HOME

47.4 47.6 47.4 47.4 47.0 45.6 44.0 41.5 36.5 31.1 24.3

For the first 10 months of 2012, retail sales from food and beverage stores totaled an estimated $523.4 billion, up 3.5% from same period last year, according to the US Department of Commerce. Consumers also spent an estimated $440.4 billion at food service and drinking locations (e.g., restaurants), up 7.2% from same period in 2011. Overall, the spending in these two food-related categories totaled $963.8 billion, or about 24.1% of the overall $4.0 trillion of estimated consumer spending on retail and food services in the first 10 months of 2012. However, we think that the food store retail sales numbers include a significant amount of non-food items. (Note: Category totals from the US Department of Commerce and the US Department of Agriculture may vary, due in part to different definitions; for example, USDA food sales data exclude alcoholic beverages.)

CHINA, US SEEN AS WORLD’S LARGEST MARKETS According to a report published in April 2012 by IGD, a UK-based industry group, China overtook the US in 2011 as the world’s biggest retail grocery market. The Chinese retail grocery market was estimated at £607 billion, followed by the US (£572 billion), Japan (£254 billion), India (£244 billion), and Brazil (£212 billion). The report further said that by 2015, the Chinese market is expected to be worth £918 billion followed by the US at £675 billion, with India, Russia, LEADING US AGRICULTURAL EXPORT DESTINATIONS and Brazil completing the top five. (In millions of dollars) COUNTRY

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

2006

2011

Canada 11,951 18,996 China 6,711 18,855 Mexico 10,881 US 18,367 B10: LEADING Japan 8,390 14,069 AGRICULTURAL European Union 9,634 EXPORT 7,408 South Korea 2,851 6,967 DESTINATIONS Taiw an 2,477 3,624 Hong Kong 977 3,316 Indonesia 1,102 2,820 Turkey 1,030 2,459 Total, top 10 53,778 99,107 World total 70,949 136,345 Source: US Economic Research Service.

% CHG.

58.9 180.9 68.8 67.7 30.0 144.4 46.3 239.5 155.8 138.7 84.3 92.2

From the above estimates, we can see that growth in developing markets such as China, India, Russia, and Brazil are expected to far outpace the growth in developed markets such as the US and Japan. Further, according to a report published in March 2012 by the Worldwatch Institute, a global environmental research organization, demand for meat, egg, and dairy products is rising in developing markets. With rising income levels in countries like China, Brazil, and India, we think spending on higher-protein food like milk, eggs, and meat has increased. Related to this, we think production and consumption of animal products has been rising in emerging markets.

While demand for agricultural food is growing with the rising demand from increasing world population and production of biofuels, production needs to keep pace to ensure food security. According to a United Nations report released in October 2012, some 870 million people in the world suffer from chronic malnutrition. An estimated one-third of agricultural produce each year is lost due to drought, flooding, 12

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pests, and waste. In addition, an estimated 12 million hectares of land is lost annually due to degradation. In order to have long-term food security, the Commission on Sustainable Agriculture and Climate Change (CSACC), a global agriculture research group, has suggested seven measures, such as asking for changes in policies, eating choices, finance, crop-growing patterns, development aid, and waste reduction, as well as investment in knowledge systems for supporting these changes. One way of increasing food security is to reduce food waste. While an estimated 870 million people in the world go hungry in the developing countries, consumers in the developed countries discard 220 million metric tons of food every year, according to the United Nationsâ&#x20AC;&#x201D;equal to the entire food output of subSaharan Africa. If this wasteful pattern were replicated all over the world, the demand for natural resources would be unsustainable. According to the FAO, the world population will reach nine billion by 2050; to feed that population, world food output will need to increase by about 70%. While making food pricier in the developed countries may reduce some waste, it makes life difficult for the poor people in these countries. We think the best way to deal with waste is through education.

LARGEST OF THE LARGE In their most recently reported fiscal year, we calculate that the top 10 publicly traded US-based food and beverage producers generated about $263 billion in total food and beverage sales, including international sales. This excludes privately held candy giant Mars Inc., which, following the October 2008 acquisition of Wm. Wrigley Jr. Co., has annual MAJOR PUBLICLY HELD FOOD & BEVERAGE COMPANIES revenues of roughly $30 billion. Also (Ranked by latest fiscal year reported sales, in millions of dollars) excluded from this list are agribusiness companies such as privately owned PACKAGED FOOD & LATEST - - - - - BEVERAGE SALES - - - - - - Cargill Inc. ($119.5 billion in annual FISCAL PREV. LATEST revenues), and publicly owned Bunge COMPANY YEAR- END YEAR YEAR % CHG. Ltd. ($58.7 billion) and Archer Daniels Dec-11 1. PepsiCo Inc. 57,838 66,504 15.0 Midland Co. ($80.7 billion). 2. The Coca-Cola Co. TABLE B28: Dec-11 35,119 46,542 32.5 MAJOR PUBLICLY 3. Mondelez International Dec-11 NA *35,811 NA In addition, keep in mind that revenues HELD FOOD 4. Tyson Foods Inc. Sep-12& 32,266 33,278 3.1 of food manufacturer typically represent 5. General Mills May-12 14,880 16,658 11.9 BEVERAGE sales to food retailers or distributors, 6. ConAgra Foods May-12 12,303 13,263 7.8 COMPANIES rather than direct sales to consumers. 7. Kellogg Dec-11 12,397 13,198 6.5 Thus, the retail sales figures would 8. Smithfield Foods Inc. Apr-12 12,203 13,094 7.3 typically exceed manufacturersâ&#x20AC;&#x2122; sales. 9. Dean Foods Dec-11 10. HJ Heinz Apr-12 11. Coca-Cola Enterprises Dec-11 12. Hormel Foods Oct-12 13. Campbell Soup Jul-12 14. Pilgrim's Pride Sep-11 15. Dole Food Co. Dec-11 16. The Hershey Co. Dec-11 17. Dr Pepper Snapple Group Dec-11 18. Hillshire Brands Jun-12 19. Fresh Del Monte Produce Dec-11 20. Chiquita Brands Int'l. Dec-11 * Pro forma. ** Restated. NA-Not available. Source: Company reports.

12,123 10,707 6,714 7,895 7,719 6,882 6,893 5,671 5,636 **4,019 3,553 3,227

13,055 11,650 8,284 8,231 7,707 7,536 7,224 6,081 5,903 4,094 3,590 3,139

7.7 8.8 23.4 4.3 (0.2) 9.5 4.8 7.2 4.7 1.9 1.0 (2.7)

Although the largest manufacturers have significant presence in the marketplace, especially in specific product categories, the food and beverage industry remains quite fragmented. Based on historical US Census Bureau data, we believe that there are more than 20,000 businesses manufacturing food, beverages, and tobacco products. Most of these US producers are fairly small and employ relatively few workers. However, the largest food and beverage companies employ many thousands of people.

WIDESPREAD OWNERSHIP OF FOOD FIRMS The typical food company is small and produces a limited number of products (such as baked goods, dairy products, condiments, or snack foods) for local/regional or specialized markets. Regional firms may also serve as contract manufacturers of private label goods for grocery store chains. INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

The top national firms, in contrast, enjoy significant brand-name recognition. To manage their operations and create economies of scale, they largely focus on multimillion-dollar products that can be sold nationally. They tend to place less emphasis on regional products and preferences, except in international markets. The largest among them (based on sales for their latest reported fiscal year) are PepsiCo Inc. ($66.5 billion), Coca-Cola ($46.5 billion), Mondelez International Inc. (formerly known as Kraft Foods Inc.; $35.8 billion), Tyson Foods Inc. ($33.3 billion), and General Mills ($16.7 billion). Major foreign-based food and beverage competitors include Nestlé S.A. (Switzerland), Unilever PLC (UK), and Groupe Danone (France).

BEVERAGE INDUSTRY IS HIGHLY CONCENTRATED According to Beverage Marketing Corp., an industry consultant, the US liquid refreshment beverage market grew 0.9% to more than 29.5 billion gallons in 2011, following a rise of 1.2% in 2010; in 2009 and 2008, the market fell 2.8% and 2.1%, respectively. Only TOP 10 CARBONATED SOFT DRINK BRANDS a few key segments comprise the vast majority (Ranked by 2011 sales, in millions of cases) of the market. Carbonated soft drinks account - - - MARKET SHARE (%) - - - VOLUME for 47% of the market and bottled water about BRAND COMPANY 2010 2011 CHG. % CHG. 30%. In 2011, premium beverages (e.g., ready1. Coke Coke 17.0 17.0 0.0 (1.0) to-drink coffee, sports drinks, and energy 2. Diet Coke Coke 9.9 9.6 (0.3) (4.0) beverages) accelerated strongly; carbonated 3. Pepsi-Cola Pepsi 9.5 9.2 (0.3) (4.8) TABLE B04: TOP 10 beverages, which lost share in 2010, also lagged 4. Mt. Dew Pepsi 6.8 6.7 (0.1) (1.5) CARBONATED SOFT in 2011 as value-conscious consumers traded 5. Dr Pepper DPS 6.3 6.4 0.1 0.5 DRINK BRANDS down and switched to tap water. Energy drinks 6. Sprite Coke 5.6 5.7 0.1 0.1 7. Diet Pepsi Pepsi 5.3 4.9 (0.4) (8.2) advanced 14.4%, while ready-to-drink coffee was up 9.4%; sports drinks rose 8.8%. Bottled 8. Diet Mt. Dew Pepsi 2.0 2.0 0.0 0.4 water also recovered, increasing 4.1%. 9. Fanta Coke 1.8 1.9 0.1 3.0 10. Diet Dr Pepper DPS Source: Beverage Digest.

1.9

1.8

(0.1)

TAKE-HOME CARBONATED SOFT DRINK MARKET SHARES—2011 MARKET BRAND

TABLESHARE B02:(%) TOPCHANGE 10 35.0 SOFT 0.5 CARBONATED 32.6 (0.2) DRINK BRANDS

Coca-Cola Co. PepsiCo Dr Pepper Snapple private labels All others NA-Not available. Source: Beverage Digest.

20.0 8.9 3.5

0.0 0.0 (0.3)

VOLUME CHANGE (%)

0.8 (1.1) (0.6) (0.4) NA

(2.5)

In terms of market share, the nonalcoholic beverage industry is highly concentrated. In the carbonated soft drink segment, for example, we believe that about 88% of US retail sales are represented by the beverage brands of just three companies: the Coca-Cola Company, PepsiCo, and Dr Pepper Snapple Group. However, we have also seen fragmentation in the beverage market, with smaller niche categories and limited-edition products, which are more profitable. Thus, we see the market requiring more flexibility and increased ability to respond quickly to changes.

INDUSTRY TRENDS Consumers have become increasingly demanding of food and beverage products in recent years, often expecting meals and snacks that go far beyond the basic need of satisfying hunger and thirst. Today, consumers often expect that food and drink, in addition to tasting good, should offer some or all of the following characteristics: be low in calories; provide supplemental vitamins and minerals; create energy; and offer other health benefits. In response, we see major food companies refocusing their best product lines and acquiring brands in encouraging new areas. They are selling off or discontinuing products that don’t resonate with consumers.

FOOD COMPANIES RESTRUCTURE We see many food companies cutting costs, removing unprofitable products, and placing more emphasis on the business lines they think will experience the greatest demand in the coming years. In our view, publicly owned companies face pressure to grow their profits as a way to potentially boost their stock price and 14

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please shareholders. Food manufacturers have been seeking to offset commodity cost pressure through increased productivity (more efficient manufacturing and distribution) and price increases. Corporate cost-reduction programs focus on a variety of areas. We see a particular emphasis on what socalled supply chain improvements—more efficient or less costly ways of getting products to customers. These can range from centralized, more economical purchasing of commodities to better utilization of manufacturing plants. In some cases, when energy prices are very high, companies may look to lower their transportation costs by moving manufacturing or distributions facilities closer to their customers. Beverage companies are also working on increasing productivity and focusing growth initiatives on highervalue, healthier products in which they can charge premium prices. Consumers have been willing to pay more for beverages with perceived health or other functional benefits. In addition, bottlers such as Cott Corp. have been seeking to offset costs by investing in production lines with lighter-weight plastic bottles that also reduce the environmental impact of their products. Separation plans becoming more common We see various food and beverage companies reshaping themselves through acquisitions and divestitures. In our view, there are various potential motivations for this, including the expansion of geographic reach and product lines, producing cost synergies through combined operations, creating more clout with customers, and focusing more on “core,” faster-growing, and/or profitable businesses. For publicly owned companies, we would generally expect at least a long-term goal of boosting “shareholder value,” or the value that is placed on the company’s stock. Below we discuss several companies engaged in recent transactions.  Kraft Foods. In October 2012, Mondelez International Inc. (formerly known as Kraft Foods Inc.) spun off ownership of a large North American grocery food business. The spun-off company, which is named Kraft Foods Group Inc., includes brands such as Kraft, Maxwell House, Oscar Mayer meats, and Philadelphia cream cheese. Meanwhile, Mondelez (the remaining part of the “old” Kraft Foods) is a global snacks company, including brands such as Cadbury, Jacobs, LU, Milka, Nabisco, Oreo, Tang, and Trident. [Regarding the name “Mondelez”: Kraft says that “monde” is derived from the Latin word for “world,” and “delez” is an expression of “delicious.”] We think the snacks business has better long-term growth prospects, and that the North American grocery foods business will be more of a dividend payer. In addition, we see Kraft’s 2010 acquisition of confectionery company Cadbury plc offering strategic value for Mondelez, including the opportunity to boost its presence in developing international markets.  Dean Foods. In early December 2012, dairy company Dean Foods said it had entered into a definitive agreement to sell its Morningstar Foods division, a manufacturer of dairy and non-dairy extended shelf-life and cultured products, to Canada-based dairy company Saputo Inc. for US$1.45billion. Net proceeds, after taxes and expenses, were expected to be $887 million. Subject to approvals, we look for transaction to be completed by the end of February 2013. The Morningstar Foods business had sales of $1.3 billion in 2011, including private label products. In October 2012, Dean Foods sold about a 13% ownership interest in WhiteWave Foods, a supplier of organic and soymilk products, through an initial public stock offering (IPO). Dean retained a majority equity interest in WhiteWave, but may spin off additional WhiteWave ownership interest in the future.  Sara Lee Corp. This company completed the spinoff of its international coffee and tea business as planned in June 2012. The spun-off business will be known as D.E. Master Blenders 1753, which we think is intended to highlight the history and heritage of the Douwe Egberts coffee brand, especially in Europe. The new publicly traded company is domiciled in the Netherlands. In conjunction with the separation, Sara Lee issued its shareholders a special dividend of $3.00 per share. The remainder of Sara Lee, now known as the Hillshire Brands Co., includes various North American operations, including meat products sold under the Ball Park, Hillshire Farm, and Jimmy Dean brands, and sales to foodservice operators.  Ralcorp Holdings. In February 2012, Ralcorp Holdings Inc. completed the separation of its Post Holdings Inc. business through a tax-free spinoff. Ralcorp shareholders received one share of Post common stock for INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

every two common shares held. Furthermore, in September 2012, Ralcorp exchanged the remaining 6.8 million Post shares (about a 20% interest), in settlement of nearly $200 million in outstanding debt. MAJOR MERGERS AND ACQUISITIONS—2003 to 2012 (Transaction value of at least $1 billion) ACQUIRER

TARGET

Kellogg Co. PepsiCo

Pringles Russian food and drink company Wimm-BillDann 51% controlling interest in Yoplait S.A.S. and 50% interest in Yoplait Marques S.A.S. Del Monte Foods Co.

General Mills Funds affiliated w ith Kohlberg Kravis Roberts & Co L.P., Vestar Capital Partners, and Centerview Partners PepsiCo Coca-Cola

66% of Russian food and drink company Wimm-Bill-Dann

Table B03: MAJOR Coca-Cola Enterprises North American MERGERS AND bottling business ACQUISITIONS

Corn Products International Ralcorp Holdings Kraft Foods Nestle PepsiCo

National Starch American Italian Pasta Co. Cadbury plc Kraft Food's North American frozen pizza business Pepsi Bottling Group and PepsiAmerica

VALUE (BIL. $)

DATE COMPLETED

2.70 5.10

May-12 Sep-11

1.20

Jul-11

4.00

Mar-11

3.80

Feb-11

12.30

Oct-10

1.30 1.20 18.50 3.70

Oct-10 Jul-10 Jun-10 Mar-10

7.80

Feb-10

Ralcorp’s full ownership of the Post business was relatively short-lived: it acquired the US and Canadian operations of the Post Foods cereals business from Kraft Foods Inc. in 2008. This shifted Ralcorp’s revenue mix toward non– private label brands and added about $1.1 billion of annual sales to Ralcorp.

However, while fending off an acquisition attempt in 2011, we think Ralcorp may have been Kraft Foods 7.70 Nov-07 under pressure to Danone Group 17.80 Nov-07 bolster its stock Nestlé 7.70 Aug-07 price. The shares JBS SA 1.47 Jul-07 rose sharply in Nestlé 2.50 Jul-07 the spring of Coca-Cola 4.10 Jun-07 2011, which we Pilgrim's Pride Corp. 1.10 Jan-07 attribute largely The Blackstone Group L.P. 2.27 Jun-05 to speculation Kraft Foods 1.07 Sep-06 about Ralcorp Cadbury Schw eppes Plc 1.18 May-06 being acquired. American Foods Group Inc. NA Jun-05 In August 2011, Wrigley 1.48 Jun-05 Ralcorp reported Cadbury Schw eppes Plc 4.20 Mar-03 that its directors NA- Not available. Note: Some ac quisition pric es may be approximate or rounded. Also, some transac tions had unanimously may be mergers in whic h there is some ambiguity regarding what party is or may be the acquirer or ac quiree. rejected an Sourc e: Company reports. unsolicited merger proposal from ConAgra Foods Inc. (for update, see below), saying that the proposal was not in the best interests of the company and its shareholders. ConAgra Foods withdrew its proposal in September. J.M. Smucker Mars Inc. PepsiCo/Pepsi Bottling Group Ralcorp Holdings Inc. Ospraie Special Opportunities

Procter & Gamble's Folgers coffee business Wm. Wrigley 75.5% of JSC Lebedyansky Kraft Foods' Post cereal business ConAgra Foods' commodity trading and merchandising operations Danone Group biscuit business Numico Gerber Sw ift & Co. Medical nutrition business of Novartis Energy Brands Inc. (Glacéau) Gold Kist Inc. Pinnacle Foods Group Inc. United Biscuits' Spanish and Portugese units Dr Pepper/Seven Up Bottling Group Rosen's Diversified Inc. Kraft Foods confectionery brands Adams (Pfizer's chew ing gum business)

3.53 22.00 1.40 1.65 2.10

Dec-08 Oct-08 Oct-08 Aug-08 Jun-07

Acquisition activity heats up Since the second half of 2009, we have seen a more active acquisition environment, helped, in our view, by higher stock prices, improved access to capital, and a relatively low interest-rate environment. A number of these acquisitions have involved US companies increasing their presence in international markets. 16

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In November 2012, ConAgra Foods and Ralcorp Holdings announced a definitive agreement under which ConAgra would acquire Ralcorp, the largest manufacturer of private label food in the US. Under the terms of the agreement, Ralcorp shareholders would receive a substantial premium price to where Ralcorp shares had been trading recently. Including the assumption of debt, the transaction was valued at about $6.8 billion. The combined company would have annual sales of about $18 billion, including private label sales of approximately $4.5 billion. In September 2012, Itochu Corp., Japan’s third-largest trading house, agreed to buy Dole Food Co.’s worldwide packaged foods and Asia fresh produce businesses for $1.685 billion in cash. Dole’s packaged food business produces canned fruits and juices, while the Asia fresh produce business grows, sources, and distributes fresh fruit and vegetables mainly in Asia. The two businesses had combined revenue of $2.5 billion and adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) of $190 million in 2011. In August 2012, General Mills acquired Yoki Alimentos S.A., a privately held Brazilian food company with reported revenue of $1.1 billion in 2011. The company’s Yoki and Kitano brands have market-leading products in snacks (popcorn and snack nuts), convenient meals (side dishes, dry soups), basic foods (grains and beans), and seasonings. In April 2012, Swiss company Nestlé S.A. said that it had agreed to Pfizer Nutrition for $11.85 billion. The acquisition, which is subject to regulatory approval, would increase Nestlé’s position in the child nutrition market. Nestlé estimated the acquired business’s 2012 sales at $2.4 billion, and said that 85% of Pfizer Nutrition’s sales are in emerging markets, including many with large, fast-growing populations. In May 2012, Kellogg acquired the Pringles snack food business from Procter & Gamble in a transaction valued at about $2.7 billion. In our view, the Kellogg transaction was announced after it appeared that a Diamond Foods’ bid to acquire the Pringles business was falling through. We anticipate that the acquisition will significantly expand Kellogg’s snack food business, including giving the company more of an international presence. Pringles is the world’s second largest player in savory snacks, according to Euromonitor International, a market research firm. Kellogg says that the Pringles business has $1.5 billion in sales across more than 140 countries. Earlier, in the first half of 2010, Kraft acquired British confectionery company Cadbury plc in a cash-andstock transaction valued at $18.5 billion. In August 2012, Kraft said that it expected to incur total charges of about $1.5 billion through the end of 2013 to combine and integrate the two businesses. In August 2012, Kraft said that it expected annual cost savings of approximately $800 million by the end of 2013. Additionally, it expected revenue synergies related to the acquisition to reach $1 billion, of which $400 million has already been achieved. Heinz has also increased its international presence through acquisitions. In 2010, Heinz acquired Foodstar, which sells soy sauce and fermented bean curd in China. In April 2011, Heinz completed the acquisition of an 80% interest in Coniexpress S.A. Industrias Alimenticias, a Brazilian manufacturer of the Quero brand of tomato sauces, tomato paste, ketchup, condiments, and vegetables. Heinz said that the Quero business had annual sales of about $325 million. Other recent food industry acquisition-related activity has included the following:  In October 2011, Ralcorp announced the completion of its acquisition of Sara Lee Corp.’s privatebrand refrigerated dough business for $545 million. The dough business, which targets markets for toaster pastries, crescent rolls, pizza crusts and biscuits, generated sales of over $300 million in 2010. 

In September 2011, McCormick & Co., a manufacturer of spices, herbs, and seasonings, completed its joint venture with Kohinoor Foods Ltd., an Indian company that sells basmati rice and food products. With an investment of $113 million, McCormick & Co. has an 85% interest in the joint venture. The company plans to leverage on Kohinoor Foods’ extensive retail network across India through this deal. The joint venture is expected to generate sales of around $85 million in its first year. In that same month, McCormick acquired another seasonings and flavor products company, Kamis, for $286 million. With the

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acquisition of this Polish company that has subsidiaries in Russia, Ukraine, and Romania, McCormick plans to expand its presence in Central and Eastern Europe with new products and marketing programs. 

In September 2011, PepsiCo completed its acquisition of a 100% stake in Wimm-Bill-Dann Foods, the Russian company that produces dairy products, fruit juices, mineral water, and baby food. The acquisition took place in stages: in the first stage, Pepsi acquired 66% of Wimm-Bill-Dann’s stock from the main shareholders and the treasury stock for $3.8 billion, which raised its stake in the company to 77%. In the second stage, Pepsi acquired the remaining 23% stake through a squeeze-out process. This deal will help Pepsi expand its presence in the emerging Eastern European and Central Asian markets.



In July 2011, General Mills completed its acquisition of a 51% stake in Yoplait and a 50% interest in an entity that holds the global Yoplait brands for around $1.2 billion. Yoplait, a French company, is the second-largest yogurt brand worldwide. General Mills and Sodiaal (which owns the remaining stake in Yoplait) plan to grow the brand further, leveraging on General Mills’ strong market presence. General Mills licensed the Yoplait brand in 1977 and has been Yoplait’s largest licensee since then.

Financial difficulty for some Some companies have seen difficult financial situations. For example, in January 2012, Hostess Brands Inc., a US manufacturer of snack cakes, filed for Chapter 11 bankruptcy. In its filing, the company said that it owed more than $1 billion to creditors. We think the company continued to manufacture product until the fall of 2012. However, on November 21, 2012, Hostess announced that the US Bankruptcy Court for the Southern District of New York had approved a motion for an orderly wind down of its business and sale of assets. Hostess said that Judge Robert Drain approved the motion after the company and the Bakery, Confectionary, Tobacco and Grain Millers Union (BCTGM) were unable to reach an agreement during a mediation. Hostess said that it is winding down the company after a nationwide strike initiated by the BCTGM that started on November 9 “had “crippled its operations at a time when the Company lacked the financial resources to survive a significant labor action.” We expect that some of Hostess’s brands (possibly Twinkies and Drake’s) will be acquired in a liquidation of the company. PepsiCo restructures At the end of February 2010, PepsiCo completed the acquisition of the remaining shares it did not already own of its two largest bottling companies, Pepsi Bottling Group Inc. and PepsiAmericas Inc., for a total price of close to $8 billion. The PepsiCo bottling acquisitions effectively reversed the spinoffs of Pepsi’s bottling assets 10 years ago, which we believe was done in an effort to increase shareholder value. Although we see some merits to the acquisition of the bottling businesses now, we do not believe a deal was vital to PepsiCo’s growth prospects, as we still see significant opportunities for PepsiCo to expand internationally. However, the bottler deal targets the changing beverage landscape in North America, as noncarbonated beverages increasingly dominate market growth. PepsiCo views a bottler combination as speeding innovation and go-to-market efforts. In the beverages industry, there had been speculation that PepsiCo Inc. may consider a spinoff of its beverage and snack businesses. However, with the formation of the Power of One—Americas Council in September 2011, the likelihood of a spinoff declined. This council was formed to align the two businesses across North, South, and Central America. The company believes that the food and beverage businesses are complementary across the operations in the value chain and better coordination among them will result in synergies. Further, Pepsi observes that snacks and beverages are usually bought and consumed together. Along with the formation of this council, a Global Snacks Group (GSG) was formed, which is responsible for innovations pertaining to its global snack foods brands. The company also has in place a Global Nutrition Group and a Global Beverages Group. In November 2011, to build its snacks business, Pepsi acquired privately held Grupo Mabel, a Brazilian cookie company, for approximately $500 million. In April 2012, to revive its fortunes, the company said that that it wants to be judged on its overall beverage portfolio, rather just the carbonated beverages. Beverage deals focus on international, healthier products  Coca-Cola. In early 2009, we saw the Chinese government block Coca-Cola’s $2.4 billion bid to acquire China Huiyuan Juice Group Ltd., China’s largest juice manufacturer and distributor. However, we believe 18

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that Coca-Cola will continue to look to bolster its position in the noncarbonated arena worldwide. With more than $20 billion in free cash flow generation likely in the next three years, according to our estimates, we think Coca-Cola will seek to take advantage of an acquisition and investment environment where other companies may be handicapped by stringent capital markets. In 2009, Coca-Cola took a minority stake in British smoothie manufacturer Innocent, a fast-growing top brand that markets its healthy ingredients and social commitment. Innocent was one of the first consumer brands launched in Britain to gain a large following through ethical marketing. It gives 10% of its profits to charity and uses recycled bottles. We think that Innocent’s recycling expertise could be valuable to Coke, while Coke could provide Innocent further access to other noncarbonated markets, particularly in Europe. In April 2010, Coca-Cola raised its stake in Innocent to 58%. In March 2011, Coca-Cola acquired the remaining stake it did not own of Honest Tea, a leading organic bottled tea company. Since the initial investment from Coca-Cola three years ago, the company has introduced a plastic bottle that uses 22% less material and has doubled the number of offerings, as well as the sale of organic, zero-calorie drinks. Coca-Cola’s purchase of Energy Brands in 2007 was criticized at the time for its price tag of more than $4 billion. However, this deal increased Coca-Cola’s distribution in both the US and Great Britain, and appears to have helped the company outperform the noncarbonated beverage category in 2008 and 2009. Wider international distribution began in 2010 and continued through 2011 and 2012.  PepsiCo. PepsiCo has also focused on building its international presence in some faster-growing categories. In 2008, the company purchased Britain’s V Water, a maker and distributor of enhanced waters, and, along with Pepsi Bottling Group, acquired Russia’s top juice manufacturer, JSC Lebedyansky, for $1.4 billion. In February 2011, PepsiCo completed the acquisition of 66% of the outstanding shares of WimmBill-Dann Foods OJSC, Russia’s leading branded food and beverage company, for approximately $3.8 billion; in September, it increased its stake to 100%. Wimm-Bill-Dann is a leader in traditional and valueadded dairy products, with a strong position in the juice market; it is expected to make PepsiCo a leader in the food and beverage market in Russia as well as build its position in Eastern Europe and Central Asia. Pepsi is also taking steps to boost its nutrition portfolio. For example, in late 2011, the company entered a joint venture with the German dairy company, Theo Müller Group, to introduce a new yogurt brand in the US. Pepsi, which had no dairy business in the US, wanted to capitalize on the rapidly growing yogurt market there. In July 2012, the joint venture company started selling yogurt in the Northeast and mid-Atlantic states. While initially the company will sell the product manufactured in Europe, it plans to construct a state-of-the-art facility in Batavia, New York, with an investment of $206 million. The plant, which will create 186 new manufacturing and support jobs and was expected to be online in 2013, will churn out five billion cups of yogurt every year. This is a part of the company’s plan to double its revenues from nutritious drinks and snacks to $30 billion by 2020. In line with this plan, Pepsi in September 2011 acquired WimmBill-Dann Foods, a Russian company producing dairy products, juices, baby food, and mineral water. In November 2011, PepsiCo agreed to sell its bottling operations in China to Tingyi-Asahi Beverages Holding Co. and give the joint venture exclusive rights to manufacture and distribute PepsiCo’s trademark beverages in exchange for a 5% stake. The deal is expected to give Pepsi a new platform for expanded distribution in China.

WHY ARE FOOD PRICES SO VOLATILE? Over time, we think various factors contribute to changes in food commodity prices and food demand. These can be best understood as long-term and short-term factors. Long-term factors affecting food supply and demand We think longer-term factors affecting food supply include the following:

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FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012



Improved agricultural productivity. A boost in agricultural productivity caused by advancement in technology over time can help improve supply. New farm equipment, disease resistant varieties of seeds, and similar developments can improve the output level for various crops. According to the September 2012 issue of Amber Waves, a quarterly publication by the USDA, evidence points towards healthy but uneven agricultural productivity growth globally. More efficient global distribution/allocation. With a better international infrastructure in place, and new free trade agreements being signed among countries, global distribution should become much more efficient, leading to better allocation of the food supply in the long term. Amount of land and water resources available. The amount of arable land and water available for irrigation is an important factor affecting the long-term supply. According to the FAO, expansion in the land resources available for cultivation will account for around 20% of the growth in agricultural produce until 2030.

Among the longer-term factors affecting food demand, we see:  



Growing overseas demand due to higher incomes and changing lifestyles. As populations in developing countries become wealthier and more urbanized, demand for packaged foods should rise. Demographic profile in developed markets. With an aging population in developed markets such as the US and Western Europe, we think demand for healthier, more nutritious, food is on the rise. Meanwhile, in some other countries, fertility or birth rates are much higher, which can both contribute to population growth and boost demand for food. Bio-energy markets. Crops such as corn, sugar, and rapeseeds are increasingly being used to produce ethanol to generate energy.

Shorter-term factors affecting food supply and demand Short-term factors affecting food supply may include the following: 

  

Climate change or extreme weather. Agricultural produce is prone to suffer from excessive rain or drought conditions. Poor harvests are especially likely to affect prices when inventory levels of a crop are relatively low. Trade restrictions. These include export bans or tariffs. Changes in food stocks/inventories. Lower inventory generally increases the likelihood of price volatility. Feed costs for livestock. Crops such as wheat, oat, barley, and canola are used mainly as feed for livestock, and changes in their prices add to food price volatility.

Short-term factors affecting food demand may include the following: 



Economic conditions. Recent economic difficulties made consumers increasingly conscious about their spending; many have traded down to lower-cost product categories. In addition, consumers may be less likely to keep extra food in their pantries when money is tight. Fluctuation in currency exchange rates. A weaker US dollar can boost international demand for US crops as it gives foreign buyers more purchasing power.

FOOD AND HEALTHCARE OVERLAPPING We continue to believe that that there is a growing overlap between the food and the healthcare industries. As a result, we see regulators, companies, and consumers increasingly looking at the impact of food and beverage manufacturing and consumption on food safety and one’s personal well-being. However, we also anticipate questions about how much government or regulatory action—everything from taxes on products that are viewed as less healthy, to educational efforts that encourage healthier diets and costly mandates aimed at improving food safety—can or should influence what consumers eat and drink. Obesity is an area of particular concern. According to a study released in September 2012 by RAND Corp., a nonprofit research group, the percentage of US adults who are 100 or more pounds over a healthy weight reached 6.6% in 2010, up from 3.9% in 2000. The study pegs the number of adults who are severely obese 20

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at 15 million. Growing obesity rates in the US have benefited the meal replacement market. IBISWorld, a research and analytics firm, said the market was expected to reach $2.2 billion in 2011, up 9.3% from 2010. Such foods as protein shakes and 100% oat and whey products are costlier than other nutrition-rich products, but are still cheaper than many other alternatives available to consumers interested in weight loss. Another emerging trend is gluten-free food, which can benefit the millions of people who are sensitive to gluten proteins. Gluten-free food is especially important for people suffering from celiac disease, the number of which may total at least three million in the US. In September 2011, Euromonitor International forecast that sales of gluten-free foods would total $2.67 billion globally in 2011 and $1.31 billion in the US, with the latter rising to $1.68 billion by 2015. Corporate health initiatives According to Hudson Institute, a policy research organization, between 2007 and 2011, better-for-you (BFY) foods comprised around 40% of sales for the top 15 food and beverage companies, while they accounted for more than 70% in the growth of sales. Hudson Institute defines BFY as no-, low-, or reducedcalorie foods, and foods that are generally considered healthier such as yogurts and whole-grain cereals. Most of the food companies today are facing the challenge of making their food products healthier while also maintaining the taste of these products. We see various manufacturers aiming to reformulate products, and to reduce the amount of such ingredients as sodium and saturated fat. Manufacturers are constantly innovating and coming out with healthier products. Some new products listed on the website foodprocessing.com’s “New Food and Beverage Rollout” section for October 2012 included the following: Tabatchnick Fine Foods Oatmeal Singles line of singleserve frozen oatmeal, which has high fiber and low calorie and sugar content, and YoCrunch Breakfast Blends, a nonfat vanilla yogurt with a topping of Post Fruity Pebbles cereal. During its investor conference in March 2010, PepsiCo outlined its goals for the next 10 years, including cutting average added sodium per serving by 25% in key global food brands in important markets by 2015 and adding more whole grains, fruits, vegetables, and low-fat dairy to its products. PepsiCo also outlined a commitment to display calorie count and key nutrients on food and beverage packaging by 2012 and aims to increase sales from its “Good for You” portfolio of healthier products to $30 billion in annual sales from $10 billion. In recent years, Pepsi switched from frying its Lay’s potato chips in trans fats to sunflower oil. More recently, in response to consumer desires to eat healthier, we see PepsiCo moving to make half of its snacks sold in the US with only natural ingredients (though it is not clear that making snacks with natural ingredients makes them healthier). Many of these products are already in stores. PepsiCo is removing monosodium glutamate and about three dozen other artificial ingredients in more than 60 snack varieties in the Lay’s, Tostitos, SunChips, and Rold Gold brands. In a move to educate consumers, companies such as Coca-Cola Co., PepsiCo Inc., and Dr Pepper Snapple Group have decided to start displaying calorie content for their drinks in vending machines. Government health initiatives In April 2011, an inter-agency working group (IWG), which included the Federal Trade Commission, the FDA, the Centers for Disease Control and Prevention, and the USDA, proposed voluntary principles that the industry can refer to as a guide for marketing food to children (defined as those under 18 years of age). The two basic principles outlined were as follows. First, food advertising and marketing to children should encourage them to make healthy food choices such as vegetables, fruit, whole grains, fat-free or low-fat milk products, fish, poultry, eggs, nuts or seeds, and beans. Second, saturated fat, sugar, and sodium levels in foods marketed to children should be at levels that will restrict the adverse impact on children’s health. However, we think there was concern from food and beverage companies and advertising trade groups about marketing guidelines being overly strict. In October 2011, the proposed IWG guidelines were modified. The final guidelines included a 350-calorie limit on foods marketed to children (defined as those under the age of 12). These voluntary guidelines cap the sugar level in cereals marketed to children at 10 grams. INDUSTRY SURVEYS

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We have also seen the Obama Administration and First Lady Michelle Obama pursue various food-related initiatives, including a focus from the First Lady on childhood obesity and home gardens. Let’s Move!—an initiative launched in 2010 by the First Lady—is aimed at addressing childhood obesity. President Obama created a Task Force on Childhood Obesity to review programs and policies relating to child nutrition and physical activity, and to develop a national action plan to maximize federal resources and set benchmarks toward the First Lady’s national goal. The Task Force recommendations include providing healthy food in schools; improving access to healthy, affordable foods; and increasing physical activity. In December 2010, President Obama signed the Healthy, Hunger-Free Kids Act of 2010, which gives the USDA the authority to set nutritional standards for all foods regularly sold in schools during the school day, including vending machines. The legislation also provides additional funding to schools that meet updated nutritional standards for federally subsidized lunches. In January 2012, the US government announced a major overhaul to school meals. According to the new rules, fresh tomatoes and chef salads will replace breaded patties and canned fruits. The rules were different from the 2011 draft in that they require more fruits and food rich in whole grains, instead of a meat or meat alternative. Starting in 2014–15, schools would have to offer only whole-grains–rich products, while they can serve tofu as an alternative to meat. The schools have started to implement the guidelines by providing more whole grains, while limiting protein and calories. We believe that the diets of children and related obesity issues are of growing concern. Under new federal healthcare legislation (the Patient Protection and Affordable Care Act), various restaurant chains will be required to provide calorie information on products they offer. According to FDA Commissioner Dr. Margaret A. Hamburg, Americans consume about one-third of their calories from foods prepared outside the home. If consumers pay more attention to such data, we expect that it will influence some purchase decisions, though we do not expect availability or demand for indulgent foods to disappear anytime soon. States have started campaigns against obesity. New York State, which has 23% of its population classified as obese, has launched a $500,000 ad campaign encouraging people to eat and drink less. In September 2012, New York City health officials voted to ban the sale of sugary drinks larger than 16 ounces in restaurants, mobile food carts, delis, and concessions at movie theaters and stadiums in order to curb obesity. The ban, which is effective from March 2013, will not apply to juices, milk shakes, or sweetened lattes, and grocery and convenience stores are exempt. Beverage companies and restaurants oppose the ban and have filed suit against it in the State Supreme Court in Manhattan, arguing that Board of Health cannot ratify the new rules unilaterally. In November 2012, two cities in California that are facing budget deficits—Richmond and El Monte—put a referendum to tax sugary beverages on the ballot, proposing a penny-per-ounce tax on sugar-sweetened drinks. The American Beverage Association—a soft-drink industry trade group that has been an outspoken foe of the New York City soda ban and the proposed taxes—spent $2.5 million in Richmond and $1.3 million El Monte in campaigning against the taxes (it was the most expensive campaign ever in El Monte). The proposal was roundly defeated in both cities, with only 23% of voters in El Monte and 33% in Richmond in favor.

FOOD SAFETY, SECURITY REMAIN A CONCERN Partly due to the global nature of the food industry, we see a heightened focus on the safety and sourcing of industry products. This includes both products manufactured in the US and foods imported from elsewhere. In our view, efforts to improve the regulation of products in the food chain may add to the costs of food businesses, including smaller farms and local agricultural outlets. We think that such costs could relate to new regulations in such areas as food safety, storage, and transportation. Especially during a period of rising agricultural trade between different parts of the world, we see increased risk of inconsistent or poorly applied quality control. With additional or new product sources, and greater distance between where products are produced and where consumers ultimately buy them, we think it becomes more difficult to monitor and assure product quality. Increasingly, we expect consumers to focus 22

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on the origins of the food they buy, and wanting to know what the food contains. With origins comes the idea of traceability—being able to track the source and production process for a food item. Nevertheless, a number of the food-borne illnesses in the US have been linked to domestic, rather than international, sources. Regulatory efforts: the Food Safety Modernization Act We have seen a growing emphasis on food production standards, inspections, and labeling, and efforts to provide government officials with more enforcement power to facilitate food safety. The FDA is the US federal agency largely responsible for overseeing the safety of the food supply. In addition, the US Department of Agriculture (USDA), which has food safety programs covering meat, poultry, and processed egg products, is an integral part of the regulatory framework. In January 2011, President Obama signed the FDA Food Safety Modernization Act into law. The legislation is aimed at ensuring the safety of the US food supply, including a focus on preventing contamination. The FDA says that for the first time, it has a legislative mandate to require comprehensive, preventive-based controls across the food supply chain. Under provisions of the bill, companies would be required to develop and implement written food safety plans, and the FDA would have the authority to better respond and require recalls when food safety problems occur. In addition, the FDA would be able to better ensure that imported foods are as safe for consumers as foods produced in the US. However, the implementation process for elements of the bill seems to have been rather slow. With the new legislation, the FDA is expected to establish standards for the safe production and harvesting of fruits and vegetables, and to increase the frequency of food-related inspections. In May 2011, the FDA issued its first rules under the new legislation, one of which would provide greater ability to detain food that the agency believes was produced under insanitary or unsafe conditions. The second rule requires anyone importing food into the US to inform the FDA if any country has refused entry to the same product, including food for animals. Both rules went into effect on July 3, 2011. The FDA said that some, but not all, provisions of the legislation exclude restaurants and food retailers. More information on the Food Safety Modernization Act can be found at http://www.fda.gov/Food/FoodSafety/FSMA/default.htm. Food-related illness There are primarily five types of bacteria—listeria, E. coli, salmonella, staph bacteria, and hepatitis-A—that can make their way into the food supply chain and are capable of causing food poisoning outbreaks that results in illness or even death. Food-borne illness can result from a variety of factors: the manufacturing or distribution process, or by the way food is handled or stored in the home. A number of US-produced foods have been affected by product recalls related to bacterial contamination. In August 2012, the FDA announced the recall of cantaloupes that originated from Chamberlain Farms Produce Inc. of Owensville, Indiana, as they were found to contain salmonella. A total of 261 people in 24 states were infected, resulting in 94 hospitalizations and three deaths. In October 2011, there was an outbreak of listeria through cantaloupes that was thought to have caused more than 20 deaths, becoming one of the most serious outbreaks in the US in 25 years. That same month saw a multi-state outbreak of salmonella that was thought to have been caused by Turkish pine nuts. Cola recipes changed over cancer alerts Coca-Cola and PepsiCo have decided to change the ingredients of their colas after California added an ingredient used in Coke and Pepsi to its Proposition 65 list of substances that can cause cancer. This ingredient, 4-Methylimidazole (4-MEI), is a component of the caramel used to give Pepsi and Coke their brown color. In California, businesses that manufacture or sell products that cause exposures to significant amounts of 4-MEI must provide a warning. However, state scientists have developed a “safe harbor” number for 4-MEI (a level of exposure that does not cause a significant cancer risk), and products that expose the public to less than the safe harbor level do not require warnings. Both Coca-Cola and PepsiCo have asked their suppliers to reduce the level of 4-MEI used in caramel.

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Increased focus on food labels We think Americans are increasingly feeling the need to be more informed about the food that they buy in order to make better food choices. Nutrition Keys is a program started in January 2011 by the Grocery Manufacturers Association (GMA) and the Food Marketing Institute (FMI) that places nutrition information (e.g., calories, saturated fat, sodium, and total sugar content) on the front of packages. In September 2011, the GMA and the FMI announced “Facts Up Front” as the theme for a consumer education campaign that was expected to begin in early 2012. The Institute of Medicine (IOM) has recommended a simplified labeling program whereby the front of the package would provide nutrition and ingredient-related information—in the forms of stars and checks, along with the number of calories per serving—that could help consumers assess the healthiness of a product. The number of stars or checkmarks, ranging from zero to three, would depend on simple criteria to indicate what is present in the food product (e.g., levels of saturated fats, sodium, and added sugars). While this labeling system could be easier for consumers to comprehend (e.g., a three-star product would be viewed as better than a two-star product), some food or beverage products, such as candy and sweetened soft drinks, might always be labeled with zero stars. The GMA planned to go ahead with its own Facts Up Front labeling plan.  Calorie labels. The nonalcoholic beverage companies have undertaken a calorie label initiative. The calorie counts for packages containing 20 ounces of fluids and containers larger than 20 ounces of fluids are to be labeled per 12-ounce serving for all beverages. (100% juices and juice beverages are an exception to this rule; the FDA requires them to be labeled per eight-ounce serving.) As a part of this initiative, members of the American Beverage Association (ABA) have decided on using a calorie label, which would be uniform in its design and location. The presence of very few calories in diet carbonated soft drinks (CSDs) can result in a large gap in calorie count with respect to other CSDs. In diet CSDs, juice and citric acid can add a few calories. As per the labeling regulations, if the calorie count for the beverage ranges between five and 49.9 calories, it has to be rounded off to the nearest five-calorie increment and if the beverage contains more than 50 calories, it is rounded off to the nearest 10-calorie increment. While the purpose of labeling is to help consumers, regulations such as these could lead to some misunderstanding or confusion. We think that food labeling is getting increased attention, as consumers and regulators focus both on ingredients and any health claims that food companies make. In April 2011, the FDA proposed rules that would require fast food chains and restaurants to disclose the calorie content of their foods. These rules would also be applicable to vending machines, coffee shops, convenience, and grocery stores, but will exclude movie theaters, bowling alleys, and airlines. The focus of these rules will be on food chains, which serve standardized items, rather than on stand-alone restaurants that customize their offerings.  Nutrition labels. Nutrition claims are increasingly coming under challenge in the beverage arena. In July 2010, a federal judge allowed a lawsuit to proceed over health claims made by Coca-Cola’s Vitaminwater. The suit was filed by the Center for Science in the Public Interest, which claimed deceptive and unsubstantiated health claims on Vitaminwater labels. In September 2010, the FDA warned Dr Pepper Snapple Group Inc. and Unilever for making misleading statements on labels about green tea. We expect this kind of scrutiny to continue as authorities balance a desire to protect the public and companies’ rights to communicate information on the attributes of their products. The FDA intends to develop standardized, science-based criteria on which front-of-package nutrition labeling must be based. The FDA has noted that, although nutrition-related front-of-package and shelf labeling are currently voluntary, they are subject to provisions that prohibit false or misleading claims and restrict nutrient content claims to those defined in FDA regulations. The FDA said that it would consider enforcement actions against clear violations.  GMOs. We see the production and consumption of genetically modified foods (GMOs) as being controversial, including some concern about possible side effects, including the environmental impact of increased amounts of herbicide. We expect there will be continuing efforts to require labeling on food, providing consumers with more information about whether various items have been grown with genetically modified seeds. 24

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As of October 2011, consumer groups had filed a petition requesting the FDA to ask for compulsory labeling of genetically modified products. The FDA has rejected the labeling of genetically modified products since 1992. The Center for Food Safety has asked the FDA to revise its old policies on the matter. Currently, the FDA is in the process of deciding whether to approve genetically modified salmon and the labeling of that item. A proposal that would have made California the first state in the country to require labeling of foods that contain genetically modified ingredients was defeated on November 6, 2012, with 53.1% of voters against it. The Right to Know Genetically Engineered Food Act (Proposition 37) would have required that such foods be labeled as “partially produced with genetic engineering.” A month before the vote, polls indicated that 60% of voters favored the proposal, but support declined after a series of ads against it by food and biotech companies. According to MapLight, an organization that tracks campaign contributions, food and biotech companies raised $46 million to defeat the measure against $9.2 million raised by its proponents. We view food and beverage labels as a significant source of portion and calorie information, as well as other data that could have a bearing on disease management or prevention. Looking ahead, we expect increased pressure and requirements for food companies to provide evidence of third-party scientific studies that support claims that various foods or ingredients offer significant potential for improved health. We anticipate that food manufacturers will be more cautious about the language they use to publicize the prospective health benefits of their products. We think that increasing research and development costs, along with the need to meet more regulatory requirements, will become an accepted part of doing business for food and beverage companies that want to benefit from the health and wellness needs of the US consumer. What is natural? We believe that Americans today are more conscious of their food habits, of the kind of food that they eat, and many people clearly prefer healthier food options. According to the International Food Information Council (IFIC), Americans consider the nutritional value of food as the third most important factor while making their purchase decision after taste and price. In the wake of this rising consciousness, we think organic or natural food is growing in popularity among consumers. To cash in on this popularity, manufacturers are selling food products ranging from ice cream to potato chips under the “natural” label, although we think there is a lack of an official definition of what can be considered natural. The FDA, responsible for regulating packaged food and beverages, put forth a loose definition of “natural” about 20 years ago. Several products are involved in a lawsuit relating to a claim of being natural; however, certain of their ingredients may not justify the claim. “Corn sugar” is also becoming a point of contention between sugar companies and corn processors. In April 2011, sugar companies sued corn processors, claiming that the industry is incorrectly using the term corn sugar in place of high fructose corn syrup (HFCS), which is an ingredient in various snacks and fruit drinks. According to the sugar companies, the practice of labeling HFCS as corn sugar is misleading consumers. Last year, the FDA approved the corn refiners’ request to replace HFCS with corn sugar while labeling packages. This request by corn refiners might have come up due to declining sales of HFCS and its being associated with the national obesity problem. We think many consumers prefer sugar to HFCS, as they believe sugar is natural and thus a healthier option. Affordability important In addition to safety, access to affordable products is another aspect of food security. In our view, the increased volatility of food prices puts additional pressure on governments to have affordable supplies available to their people. In some cases, to conserve domestic inventories and gain more control over prices, governments will take actions such as banning food exports or imposing quotas. In 2010–11, we think that social unrest in parts of Africa were fueled, at least in part, by food shortages or higher prices. We see affordability also being an issue in the US, where the number of people receiving aid under the Supplemental Nutrition Assistance Program (SNAP, formerly known as the Food Stamp Program), totaled INDUSTRY SURVEYS

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46.7 million in July 2012, which we estimate represented about 15% of the US population. The total number of people receiving assistance was up 31% from three year earlier. In July 2012, the average monthly benefit per person was $134.20. According to the USDA, the American Recovery and Reinvestment Act of 2009 increased SNAP benefit levels and expanded eligibility for jobless adults without children. However, a new federal farm bill is expected to cut SNAP spending and may reduce eligibility. In addition, we see a focus in the private sector on improving access to food. In May 2011, eight foundations launched AGree, a new initiative to address long-term food and agriculture policy issues, which we expect will include a focus on natural resource limitations and environmental challenges. According to AGree, the worldâ&#x20AC;&#x2122;s population is expected to increase by 2.6 billion (38%) over the next four decades, and there are currently 925 million people suffering under-nutrition or hunger. The organizations funding AGree are the Ford Foundation, the Bill & Melinda Gates Foundation, the William & Flora Hewlett Foundation, the David and Lucile Packard Foundation, the W.K. Kellogg Foundation, the McKnight Foundation, the Rockefeller Foundation, and the Walton Family Foundation. Frito-Lay (a unit of PepsiCo) has decided to create different snacks for different markets. For higher-end consumers, the company has introduced products like Olive Coast, kettle-cooked chips with a Mediterranean twist; for value consumers, thereâ&#x20AC;&#x2122;s Taqueros, a low-priced tortilla chip. Companies like Coca-Cola are moving to smaller package sizes as more consumers start counting their calories and their money. After introducing a 16-ounce bottle at 99 cents in 2010, it introduced a 12.5-ounce bottle at 89 cents in September 2011.

DEMAND FOR HEALTHY FOOD CONTINUES Although an aging US population is facing job losses and a slow-growth economy, we think that consumers continue to be interested in what they consider health-enhancing foods. However, such items may often bear a premium price, which is likely to inhibit purchases. In general, we see food and beverage companies developing a variety of healthier foods in response to demand from consumers, many of whom are following diets designed to promote weight loss and healthier lifestyles. Foods now include a focus on such areas as nutrition, weight management, improved digestion, disease prevention, and allergy remedies. Many of the newer, healthier foods contain fewer calories, less fat, low carbohydrates, and/or less sugar and sodium. Most of the food and beverage companies are spending time and money on reformulating their products to make them whole-fiber or gluten-free. Companies are looking at ways to offer portion control to consumers. However, we believe that consumers still generally want the food they eat, no matter how healthy, to taste good. In short, consumers want the seemingly impossible: to have their cake (preferably in convenient, ready-to-eat packaging), enjoy eating it, and improve their health in the process. We expect that the long-term trend toward healthier and environmentally friendly foods will continue, but with the caveat that financially stressed consumers may be more reluctant to pay premium prices for such products. Over time, with an older US population, we anticipate that wellness and nutritional concerns will assume an increasingly prominent role in product formulations and introductions. Such changes include making traditional products healthier through reformulations, and introducing new products that may offer such features as vitamin fortification or antioxidant ingredients to potentially combat disease or aging. Reformulations may include reductions in the fat, sodium, or sugar content of a product, aimed at addressing such health-related consumer concerns as obesity, high blood pressure, and diabetes. To justify the investment in reformulations and new products, companies may need to inform or educate consumers about the prospective benefits, using such tools as marketing and product labeling. For consumers, we think that the effort to eat healthier food likely increases with age. We look for food and beverage companies to increasingly focus on what are called functional foods or nutraceuticals. These are products that are intended to provide added health benefits, such as lowering cholesterol, replacing vitamin deficiencies, or combating disease. We expect that a growing overlap between the food and beverage 26

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industry, the healthcare industry, and the cosmetics industry will continue, as scientists and product development teams discover new applications for various ingredients. However, as this occurs, we project that product labeling will become an increasingly important issue, and that new regulatory authority and standards may be needed to monitor, test, or approve new products. Beverage companies are stepping up their efforts in no- and low-calorie sweeteners after recent launches of drinks with the natural zero-calorie compound Reb-A (rebiana, derived from the leaves of the Latin American herb stevia, which is reported to be several hundred times sweeter than sugar). In August, PepsiCo and Senomyx Inc., a company focused on using proprietary technologies to discover and develop flavor ingredients for the food, beverage, and ingredient industries, signed a four-year collaborative agreement to develop and commercialize sweet enhancers in lower-calorie PepsiCo beverages. To mitigate criticism leveled against food makers for the rising obesity rates in the US, companies have raised the profile of their healthier products through advertising and new packaging. For example, manufacturers have found success with 100-calorie portions of snacks, which have proven popular with consumers looking to enjoy a treat without consuming too many calories. However, as noted earlier, we think that manufacturer labeling is going to receive increased scrutiny, and we expect that there will be growing pressure to document or validate health claims related to food or beverages. Childhood obesity has received considerable attention, and there have been efforts to restrict children’s access to less nutritional or higher calorie foods and beverages in schools. Over time, as lifestyles change overseas, we expect that obesity will be receiving increased attention in other countries as well. Stevia makes inroads Playing into obesity concerns, the beverage industry has been intensifying its focus to include new products such as the stevia-based sweetener Reb-A. We think interest in stevia has been heightened by recent calls for taxes on soda, in the belief that new beverages containing natural diet sweeteners might help quell the demand for such taxes. Coca-Cola’s version, Truvia, was jointly developed with Cargill Inc. PepsiCo’s PureVia was developed with Whole Earth Sweetener Co., a unit of Merisant Worldwide Inc. Rather than emphasizing the no-calorie aspect of these beverages, we believe the companies will appeal to consumers based on the products’ natural formulation and, perhaps, functional benefits. Stevia has been used commercially in Japan for more than three decades and represents approximately 40% of that country’s low- or zero-calorie sweetener market, according to Cargill and Coca-Cola. It has already been approved for use in foods in 12 countries, including Argentina, Brazil, China, and Peru. In the US, stevia is currently approved (and sold) as a dietary supplement, and a tabletop version of Truvia is currently on the market. Some research suggests that stevia may improve health. Two Chinese studies found that it can reduce blood pressure among those with mild hypertension, and Danish researchers showed that stevia reduces blood glucose levels in patients with Type 2 diabetes. However, those effects were seen in doses much greater than those used in the sweetener. Conversely, some animal studies have suggested that stevia may cause cancerous mutations or reproductive problems, though the studies’ methodologies have been criticized. The FDA has approved both Truvia and PureVia for GRAS (generally regarded as safe) status. The acceptance of new products with this compound will depend on the extent that consumers like the taste. Some have said stevia has a licorice-like taste, indicating that it would perform better in noncarbonated beverages with heavy flavors or in lightly sweetened drinks. Others say that Reb-A is more highly refined and does not have such a strong taste. According to some estimates, sweeteners made from this compound had taken about 10% of the US consumer market for tabletop sugar substitutes only nine months after being approved by the FDA. PepsiCo and Coca-Cola are adding stevia-based sweeteners to many of their products being sold in US and European Union countries. New stevia-containing products launched so far include Pepsi’s zero-calorie SoBe Lifewater and reduced-calorie Trop 50, Tropicana’s new light orange juice product. The Coca-Cola Co.’s efforts include Sprite Green (a reduced-calorie version of Sprite), Vitaminwater 10 (with 10 calories), and some Odwalla juice drinks. In March 2012, Coco-Cola added Truvia to Sprite and Nestea in France. Truvia INDUSTRY SURVEYS

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said that there are hundreds of Truvia-sweetened products in the works, the latest of which is a light yogurt launched in January 2012 by Tillamook, a dairy-farm cooperative based in Tillamook, Oregon. Stevia is also used in Pepsi’s new Gatorade product, G2 Natural, which is being initially sold in Whole Foods, according to industry sources. So far, consumer reception has been strong for these new products, and we see strong momentum for new product launches that include this compound. Massimo d’Amore, CEO of PepsiCo Americas Beverages, has talked about an increased commitment to a stepped-up use of stevia-based PureVia in both carbonated and noncarbonated beverages. Other sweetener developments Industry sources indicate that other substances are being examined for future use as sweeteners, including monatin, which is also derived from a plant, and other derivatives of the stevia plant, including Reb-D. Cargill filed a patent for usage of monatin in beverages in 2005. Some think Reb-D’s taste profile could be better than that of Reb-A. However, new products with these substances are unlikely to reach the market for several years due to the lengthy approval process. Consumers’ focus on healthier lifestyles has also led to a number of prominent drink makers replacing highfructose corn syrup (HFCS) with sugar. Research has linked HFCS with obesity and diabetes. Dr Pepper Snapple Group reformulated its Snapple teas to take out HFCS and changed its logo to “All Natural Snapple.” PepsiCo has marketed sugar-sweetened versions of Pepsi and Mountain Dew under the Throwback brand, which comes with vintage packaging. In September 2010, PepsiCo relaunched Sierra Mist as Sierra Mist Natural, made with real sugar and nothing artificial. For its 125th anniversary, Dr Pepper Snapple Group rolled out Dr Pepper “Made with Real Sugar” for a limited time in summer 2010. Imperial Sugar Co. anticipates that sugar will surpass HFCS as the sweetener of choice in the US. However, this switch is unlikely to affect the overall problem of obesity in the US. Launch of mid-calorie offerings Beverage companies are coming up with beverages that lie in the mid-calorie category. The mid-calorie offerings are an attempt to strike a balance between the sugar and calorie content of the drink and its taste, and some are marketed to appeal to groups that typically avoid diet drinks. For example, in October 2011, Dr Pepper Snapple Group launched a new drink, Pepper Ten, a 10-calorie soft drink (with two grams of sugar) aimed at men, who company research has found avoid diet drinks, believing them not manly enough. In comparison, the regular Dr Pepper drink contains 150 calories and 27 grams of sugar. In December 2011, the company said that it would launch a 10-calarie variant for five more drinks from its portfolio. In March 2012, PepsiCo launched Pepsi Next, which contains half the calories of a regular Pepsi. The drink, which contains only 60 calories per can, caters to consumers who want to reduce their sugar consumption, but do not drink diet drinks because they do not want to compromise on taste. Taste is an important factor for these consumers, as they shift away from diet cokes to other options (such fruit juices and water) when they don’t like the taste of these zero-calorie drinks. The sweetener that PepsiCo uses in Pepsi Next is a combination of high fructose corn syrup, aspartame, acesulfame potassium (a no-calorie sweetener marketed as Sweet One), and sucralose (Splenda). In May 2012, Coca-Cola began a very limited tested of soft drinks using a new formulation of sweetener that will lower the calories of its beverages. According to a report in the New York Times, Coke’s new sweetener uses a combination of sugar, Truvia (the stevia-based sweetener) and erythritol (a sugar alcohol). Enhancements Beverages and dietary supplement companies are introducing citicoline, which is thought to enhance brain function, in their products. An organic molecule found in the body, citicoline is believed to speed up formation of brain cell membranes and may increase the production of neurotransmitters essential for the functioning of the brain. However, efforts to get FDA approval failed, as clinical trials showed citicoline to be no better than placebo. Nevertheless, companies such as Nawgan Products LLC have continued to promote their product as a brain function enhancer. 28

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Coconut water A particularly hot area recently is coconut water, which is the clear liquid inside young green coconuts (and is different from coconut milk). Celebrities such as Madonna have made coconut water famous. Coconut water is seen as providing functional benefits similar to sports drinks, but naturally: it is low-calorie, but with high potassium and less sodium than sports drinks such as Gatorade and Powerade. Already a popular drink in Brazil, coconut water has surpassed sales of orange juice. In August 2009, PepsiCo agreed to buy Brazil’s largest coconut water producer, Amacoco, for an undisclosed amount. Shortly after, in September, Coca-Cola bought a stake of less than 20% in coconut water producer, ZICO Beverages LLC, for less than $15 million. In March 2011, ZICO Beverages signed Boston Celtics Kevin Garnett as an endorser; the deal included both cash and an undisclosed equity stake. Sales of coconut water are still relatively small, and hard data are not readily available, but some industry estimates peg the US market at $400 million in sales currently. Sales of coconut water have increased sharply since the product’s US introduction in 2005. Some believe sales of coconut water sales could match those of niche drinks and exceed $2 billion in the next 10 years.

ORGANIC, “NATURAL” FOODS ATTRACT INTEREST We believe that consumers remain interested in how their food is produced and grown. Organic or “natural” foods have been growth drivers for a number of food manufacturers, some of which have added brands through acquisitions. (Keep in mind that “natural” lacks the USDA definition and certification of “organic.”) Organic foods are more likely to be produced by farmers who emphasize the use of renewable resources and the conservation of soil and water. To be considered organic, meat, poultry, and eggs must come from animals that are given no antibiotics or growth hormones. Organic produce is grown without conventional pesticides, bioengineering, or ionizing radiation, and without the use of fertilizers that contain synthetic ingredients or sewage sludge. In 2002, the USDA allowed food makers to label goods as “USDA-Organic” if they contain 95% to 100% organic ingredients. Foods that contain at least 70% organic ingredients can indicate that they contain organic ingredients. Use of the USDA-Organic seal on products is voluntary. In 2011, US organic food sales increased 9.4%, to about $29.2 billion, representing 4.2% of total food sales (4% in 2010), according to the Organic Trade Association (OTA). The OTA said that fruits and vegetables represented 40.5% of the total, or about $11.8 billion, while organic dairy products totaled $4.3 billion. In addition, in nonfood categories, the OTA said that sales of organic supplements, fiber (e.g., clothing), and personal care products totaled $2.2 billion. The sales of certified organic food totaled $3.53 billion in 2011, with crops representing $2.22 billion and livestock representing $1.31 billion. California accounted for 39.3% of total certified organic food sales. In March 2012, the main themes at the Natural Product Expo at Anaheim, California, included healthier snacking, fruit and vegetable drinks, natural baby foods, coconut items (like oil, palm sugar), and chia seeds. The growing popularity of organic or natural foods is indicated by the growth of Whole Foods Markets Inc. The company had sales of $2.7 billion in the 12 weeks ended July 1, 2012, which was up 13.6% from the comparable year-ago period. As of early July 2012, the company, which was founded in 1980, had 329 stores in the US, Canada, and the UK. Further, the share price of organic and natural food maker Annie’s Inc. went up 89% on March 28, 2012, the opening day of trading for the stock, to close at $35.92, compared with the IPO price of $19. The company’s shares were trading at $40.43 on November 1, 2012, up 113% from their IPO price. The company has more than 125 products, which are sold in more than 25,000 stores across the US. The company had revenues of $141.3 million in the year ended March 2012, 20% higher than a year earlier. For the six months through September 30, 2012, revenues were up 20% year over year, to $81.0 million.

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The US and the European Union (EU) signed an agreement in February 2012 to allow food certified as organic by the US or the EU to be sold in either region. This agreement allows companies and farmers to connect with each other and opens new markets for all. Companies focusing on organic or “natural” products include Hain Celestial Group Inc., with brands that include Terra Chips, Garden of Eatin’, and Earth’s Best, and WhiteWave Foods (largely owned by Dean Foods), whose product line includes Horizon organic dairy products, as well as the Silk soymilk business. A number of large food companies offer organic foods under smaller brands. For example, General Mills Inc. owns the Cascadian Farm and Muir Glen labels; Kellogg Co. has the Kashi brand; and Kraft Foods owns the Boca and Back to Nature brands. Large food makers have also rolled out organic versions of some of their best-known products. For example, Campbell Soup Co. offers organic V8 juice, while Kraft sells organic macaroni and cheese. During the past few years, we think that supermarkets have bolstered their lineups of organic foods. WalMart Stores Inc., the world’s largest retailer and one of the biggest supermarket operators in the US, began selling organic produce in its stores in 2006. We think traditional supermarkets’ investment in organic foods helps them to better compete with a retailer such as Whole Foods Markets Inc. and with farmers’ markets. For example, we think Kroger Co., which has 2,200 grocery stores, has introduced new natural and organic foods brand to bolster profitability and be more competitive. In a project begun by a foundation affiliated with Sabritas, its Mexican snack foods division, PepsiCo has begun working directly with small farmers in Mexico rather than middlemen to save transportation costs and improve access to corn and sunflower oil better suited to its products. PepsiCo guarantees the price it will pay for the crops upfront and allows small farmers to access credit to buy seeds, fertilizer, crop insurance, and equipment. Besides potentially improving profitability and demand, the program has raised farmer income and raised nutritional and educational standards, and likely, reduced illegal immigration. Local food movement The local food movement is on the rise in the US, with the direct-to-consumer marketing accounting for over $1.2 billion in sales annually. Farmers markets and community-supported agriculture are rising, as consumers shift to local food systems in an effort to find healthier, tastier, environmentally conscious, and energy-efficient alternatives to packaged food. According to an online survey conducted for Whole Foods Market in September 2012, consumers increasingly preferred local produce over organic food. The survey found that 47% of the people are willing to pay more for locally produced fruit, vegetables, meat, and cheese, while only 32% would pay more for food without artificial ingredients. Factor such as higher fuel prices are also forcing the consumers to source their food locally.

CHANGING DEMOGRAPHICS, CHANGING TASTES We also see food tastes being influenced by changing US demographics. We expect that an increasingly diverse US population is boosting interest in, and availability of, various ethnic foods. We believe that this will be evidenced by purchases of ingredients and foods for preparation in the home, as well as by the types of restaurants that open. We believe that the growing variety of foods and flavors is partly due to increases in the portion of the population that has Hispanic or Asian roots. In an industry conference in March 2012, executives of large food companies said that they were increasingly targeting Hispanics with tailored products and advertisements. According to the Food Institute’s report, Demographics of Consumer Food Spending 2012 Edition, the Asian population in the US increased by 46% from 2000 to 2010. We think this has boosted interest in ethnic food. We expect an aging US population, with its growing concern about health, to shift its food intake toward fruits, vegetables, and fish, and away from some fried foods, dairy products, and items that contain large amounts of sugar and salt. The trend is most entrenched in beverages, where the “light” designation has been long established. (Light foods contain less fat and fewer calories.)

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Companies are also responding to other demographic shifts, such as smaller household sizes, by rolling out new products targeted to these groups. This includes single-serve desserts that can be heated in a microwave. Overall, we see food manufacturers trying to compete with the convenience of take-out or restaurant dining by offering packaged meals or ingredients that reduce preparation time for busy consumers. According to the Food Instituteâ&#x20AC;&#x2122;s Demographics of Consumer Food Spending 2012 Edition, while consumers spent $1 more on fresh vegetables in 2010, they spent $14 more on processed vegetables. From this, it is clear that the consumer is buying products that have a longer shelf life. We think rising income levels and changing lifestyles are leading to a change in diet patterns among consumers in emerging international markets. Rising income levels have enabled a number of households to eat food away from home more often. In addition, higher income levels indicate that greater numbers of households possess refrigerators and microwave ovens, which increase demand for packaged food and ready-to-eat meals. With the number of women working on the rise in these economies, there is a clear shift toward ready-to-eat food products and ready-to-drink beverages, which help save time and offer convenience. For breakfast, we think cereals have gained popularity among urban consumers. Furthermore, we think a change in lifestyles has caused the concept of families having meals together to gradually decline in emerging economies. We expect this has added to demand for packaged food products.

TECHNOLOGY AFFECTING FOOD AND BEVERAGE INDUSTRY The role of technology in the food and beverage industry is becoming more important as consumers focus on saving money on their grocery bill. The Internet, social media, and agricultural technology are all being looked at more seriously in the current changing scenario. Internet allows easier price comparisons, access to coupons A number of factors are contributing to the growing popularity of the Internet as a channel consumers are using for shopping. Rising gasoline prices, larger numbers of lucrative deals, easier price comparisons, and access to coupons are some of these factors. Channels such as retail stores are experiencing a decline in customer visits as more customers are opting to shop online or at discount stores and warehouse clubs. Even if consumers are not buying online, a majority of them are using online tools to gain information on the best price at which they can buy a certain product. With consumers showing a greater interest in online coupons, the competition in this industry is also heating up. Google Offers, a competitor to sites such as LivingSocial and Groupon, has partnered with 14 other deal providers such as Gilt City, PopSugar Shop, Plum District, and Juice in the City to offer daily discounts on various products and services. In November 2011, Google launched a Google Offers mobile app for Android phones. The app will alert consumers on any deals that are of interest to them and will let consumers look up, use, and redeem deals through their mobile device. LivingSocial and Groupon had each launched their own mobile apps earlier. Farm yields may be boosted by genetically modified crops With agricultural technology coming of age, many innovative products have been introduced over the years, such as fertilizers and pest and disease control formulations. In addition, a number of crops are being modified with the use of chemicals and radiation to raise farm yields. According to an August 18, 2011, article in the New York Times, steps such as these have resulted in an almost tenfold increase in the agricultural output per acre of land cultivated in the past century. A number of new molecular methods have helped to protect plants from pests in a more environmentally friendly and a more effective manner than conventional methods. The genetic method of doing this is viewed as more effective because the crop is made resistant to pests via induction of an extra gene, which imparts resistance in the crop against certain insects, thus requiring fewer pesticides. A report published in February 2012 by the International Service for the Acquisition of Agri-biotech Applications (an international nonprofit organization that promotes the use of crop biotechnology to various parties, including resource-poor farmers in developing countries) said that 395 million acres of land worldwide were planted with genetically modified crops in 2011, 30 million acres more than 2010. The US was the biggest contributor, accounting for 45% of biotech crops in 2011. However, a recent study INDUSTRY SURVEYS

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conducted by EPA found that the genetically modified corn seed from Monsanto has become less effective. According to the study, rootworms on two Illinois farms had developed resistance to the insecticide produced by the modified corn. Precision technology helps farmers Precision agriculture is a farming management concept that relies on a collection of farm-level information technologies. These technologies work toward a judicious use of inputs and curtail the harmful impact of fertilizers and pesticides on the environment. Four key technologies that have been adopted include yield monitors, variable-rate application technologies, guidance systems, and GPS maps. Among these, yield monitoring is the most popular: more than 40% of US grain crop acres being monitored, according to the USDA. Farmers using variable-rate technologies for corn and soybean fertilizer applications have seen lower fuel costs per acre. Further, guidance systems that tell farmers the exact field positions of their equipment are showing a strong growth in usage, with 35% of wheat producers having adopted it by 2009. Application of GPS maps and variable-rate input technologies still needs to pick up pace.

NONCARBONATED BEVERAGE CONSUMPTION PICKS UP PACE According to S&P Capital IQ (S&P) estimates, carbonated beverages (both regular and light versions) make up about 50% of beverages consumed in the United States. Although this represents the largest share of beverages consumed in the US, carbonated sales have fallen in recent years while other categories experienced growth. In 2009, however, carbonated beverage sales actually outperformed the noncarbonated category, as consumers traded down to cheaper alternatives (including tap CHANGES IN US BEVERAGE CONSUMPTION water). We do not expect this phenomenon to persist over the (Percent change in volume) longer term, especially as economic conditions improve, as we see % CHG. consumer preference for healthier fare driving category growth. 2010- 11

Energy drinks Ready-to-drink coffee Sports drinks TABLE B07: IN US Ready-to-drinkCHANGES tea Bottled w ater BEVERAGE CONSUMPTION Carbonated soft drinks Flavored & enhanced w ater Fruit beverages Total Source: Beverage Marketing Corp.

14.4 9.4 8.8 4.8 4.1 (1.7) (1.7) (2.1) 1.2

As we had expected, carbonated soft drink trends reversed in 2010 as the economy improved: sales fell 0.8% in 2010 and 1.7% in 2011, and the category lost overall share in the liquid refreshment beverage market. The volume of all liquid refreshments sold rose 1.2% in 2010 and 0.9% in 2011, after slipping 2.8% in 2009, according to Beverage Marketing Corp. After a double-digit percentage fall in 2009, sports drinks rebounded strongly, rising 9.4% and 8.8%. Smaller categories, such as ready-to-drink teas, energy drinks, and ready-to-drink coffee, performed well, jumping 4.8% (12.5% in 2010), 14.4% (5.4%), and 9.4% (8.1%), respectively. However, these three categories, in aggregate, accounted for no more than a mid-single-digit percentage share of total US beverage volume. Bottled water had been one of the fastest growing beverage segments in recent years. After advancing 10.8% in 2005 and 9.5% in 2006, volume growth for bottled water slowed to 6.1% in 2007, then fell 1.0% to about 8.7 billion gallons in 2008, and dropped another 2.7% in 2009. Growth then resumed, with volumes up 3.5% in 201, and another 4.1% in 2011. We expect that bottled water will continue to grow in the long term, assuming that concerns about the safety of municipal water supplies, a general interest in healthy living, and the populationâ&#x20AC;&#x2122;s increasing affluence more than offset environmental concerns about plastic bottle usage. In addition, manufacturers are continually launching new products that drive bottled water consumption, especially in the flavored or enhanced water categories, including products with fruit flavors or the addition of vitamins. While there is clear growth in the noncarbonated beverage market for developed economies, this trend is also showing up in emerging markets. According to a study by Euromonitor, a market research and analysis firm, the noncarbonated beverage market in India is expected to grow faster in 2011 than the carbonated beverage market (around 14% versus 5.6%). Just as in the developed markets, consumers in emerging markets are becoming conscious about their health and have concerns over the presence of pesticides in carbonated beverages. These reasons justify the move toward noncarbonated beverages. 32

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Sports and energy drinks gain in popularity Sports and energy drinks have become increasingly popular, which we attribute, in part, to an interest in improved physical fitness and to the busy lifestyles that many people maintain. In contrast to the US carbonated soft drink industry, which is dominated by the three top franchise companies (Coca-Cola, PepsiCo, and Dr Pepper Snapple Group), in this segment, three of the top 10 companies based on market share for 2010 are smaller businesses with an energy drink emphasis. The increase in the consumption of bottled water and sports and energy drinks has contributed to a market share loss for traditional carbonated beverage manufacturers in the total liquid refreshment beverage market. Coca-Cola is still the world’s largest beverage company, but it is also the most vulnerable to losing share as consumers buy more noncarbonated beverages. The company added noncarbonated drinks to its portfolio later than some of its competitors did; until 2008, Coca-Cola had been less successful in the category. In our view, Pepsi had a more well-rounded beverage portfolio that includes the bottled water brand Aquafina and is complemented by a large snacks business. However, S&P believes that in recent years, boosted by its purchase of Energy Brands’ glacéau products, Coca-Cola gained share as Pepsi’s system retrenched in the competitive water market and Gatorade weakened. Looking ahead, we expect further focus on “functional foods,” aimed at helping consumers to meet specific goals. This could include products meant to satisfy people’s hunger, without actually adding many calories. Such “satiety” foods could increasingly be used in efforts to reduce weight. However, as with other food offerings that potentially overlap into the area of consumer health, we expect that product success will at least partly depend on research efforts, including documentation of what impact, if any, a given food has related to both specific objectives and overall health.

FLEXIBLE EATING IMPORTANT TO CONSUMERS With busier schedules brought on by dual-income households and longer commutes, there was a long-term trend of US consumers spending more of their food dollars for consumption outside of the home. In 1960, according to the US Department of Agriculture (USDA), US consumers spent 76% of their food dollars for at-home (or non-restaurant) consumption. By 2006, that share had declined to 53%. However, from 2007– 09, the percentage of such at-home food dollars moved up, which we believe reflected such factors as weak economic conditions, high food prices, and increased cocooning by consumers. We think a weak job market, in which households are coping with job losses and increased economic insecurity, has limited spending on food outside the home. In addition, we see packaged food makers trying to sell products that consumers can eat away from home. Companies have developed “portable” foods such as cereal bars, drinkable yogurts, and snacks in individual size packages. In addition, we think there is a growing trend among consumers to have a number of small meals each day, rather than three larger meals, because of a lack of time. Internationally, in the developing markets, growing urbanization is likely to further boost the demand for packaged and ready-to-eat foods. In developing economies, a relatively higher percentage of the total food consumed is food-at-home; however, with changing lifestyles, the trend towards packaged food as a foodat-home category is gaining strength.

HOW THE INDUSTRY OPERATES US food and beverage companies have evolved from regional firms that produce goods mainly for local markets to today’s corporate giants, which make products for national and international markets. The shift began in the early 1900s, when companies in this sector began to adopt mass-production techniques. At the same time, Americans’ increased mobility raised their demand for portable packaged food products. The US processed food and beverage industry includes establishments that manufacture or process foods and beverages for human consumption, as well as certain related products, such as chewing gum, vegetable oils, and animal fats and oils. INDUSTRY SURVEYS

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INDUSTRY STRUCTURE Domestic food companies generally fall into two groups: those engaged in the early or middle stages of making a processed food product, and those involved in the later stages. The US nonalcoholic beverage industry is generally divided into franchise or syrup companies and bottlers. Portions of the food and beverage industries are quite concentrated, largely due to strong brand names, successful product development, and acquisition activity. For example, products from Coca-Cola Co. and PepsiCo Inc. account for more than 70% of US carbonated soft drink sales. Other categories with a relatively high concentration, or a large portion, of sales in the hands of a few companies include ready-toeat cereals, candy, soup, and baby food. Food: early- to middle-stage firms Referred to as “agribusinesses,” companies that concentrate on the early to middle stages of food production tend to engage in such activities as the harvesting, milling, or processing of raw agricultural commodities. They also may plant and raise crops, although they primarily buy these commodities from farmers. Agribusiness end products generally are sold to processors and food packagers, which use the ingredients to make finished consumer food products. Agribusiness companies, such as Archer Daniels Midland Co., Bunge Ltd., and privately owned Cargill Inc., process and merchandise raw grains like corn, wheat, and soybeans. Their end products include oils, syrups, starches, and meals used in the foods and feed industries, as well as corn sweeteners used in soft drinks. Other food companies—such as meat packers Smithfield Foods Inc. and Tyson Foods Inc., and poultry processor Pilgrim’s Pride Corp.—slaughter and process livestock and chickens for retail sale. Late-stage firms Companies engaged in the late stages of consumer food production are generally referred to as food manufacturers or food packagers. These companies—including Kellogg Co., H.J. Heinz Co., Hershey Co., and Kraft Foods Inc.—sell their finished goods to food retailers, which in turn sell the products to consumers. We have recently seen a shift toward consumers spending a larger portion of their food dollars for eating at home. However, we believe that food manufacturers will continue to experience growth opportunities from offering portable products for consumption by time-constrained, on-the-go consumers out of the home.

BEVERAGE COMPANIES Franchise companies (or brand owners) are mainly in the business of making soft-drink concentrates— flavored syrups that are mixed with carbonated water to produce various beverages. These franchise companies both manufacture and sell products themselves, or they appoint bottlers to sell, distribute, and, in some cases, manufacture these products under licensing agreements. Brand owners, such as Coca-Cola Co. and Pepsi-Cola (PepsiCo Inc.’s beverage unit), generally own both the beverage trademarks and the secret formulas for their concentrates. They manufacture and sell the concentrates to licensed bottlers, and develop new products and packaging for use by their bottlers. Other important functions include developing national marketing, promotion, and advertising programs to support their brands and brand image, as well as coordinating selling efforts with respect to national fountain, supermarket, and mass merchandising accounts. They also provide local marketing support to their bottlers. Bottlers are generally responsible for manufacturing, selling, and distributing products under brand names licensed from brand owners in an exclusive territory. For carbonated soft-drink products, a bottler buys the brand owner’s soft-drink concentrate, which it combines with sweeteners and carbonated water, packages it in bottles or cans, and sells to wholesalers or retailers. Bottlers usually handle the brand owner’s fountain accounts as well. These accounts are licensing agreements between the brand owner and restaurants, stadiums and arenas, or school cafeterias. The bottler combines the brand owner’s soft-drink concentrate with sweeteners to yield syrup, which it delivers to fountain 34

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customers. In the noncarbonated beverages category, the bottler either manufactures and packages such products or purchases them in finished form and sells them through its distribution system. Bottling networks There are three major soft-drink bottling networks in the United States and Canada. The largest is the CocaCola system, which includes Coca-Cola Refreshments and Coca-Cola Bottling Co. Consolidated, as well as other independent Coca-Cola bottlers. The next largest is the PepsiCo system, which includes Pepsi Bottling Group and PepsiAmericas Inc. The parent company of the third bottling network—much smaller than the first two—is Dr Pepper Snapple Group Inc. In May 2008, ownership of this soft drink business was spun off from candy company Cadbury Schweppes PLC, with its successor business now known as Cadbury PLC. The major North American bottling systems are not necessarily exclusive. Some Coke or Pepsi bottlers may also handle Dr Pepper Snapple products, for example.

COSTS WITHIN THE FOOD SYSTEM Most of what US consumers spend on food does not go to farmers. Based largely on data from the US Department of Agriculture (USDA), for domestically produced farm food, we estimate that only about 17% of what consumers end up spending represents its farm value (e.g., agricultural commodity costs). The remaining 83% of what consumers spend on such items reflects various expenditures or allocations that are made as the food makes its way from the farm to the marketplace. Stops along the way include food processing plants and distributor warehouses. For food consumed at home, we estimate that farm value represents about 25% of the retail price. For food consumed away from home, we think the agricultural value shrinks to about 5% of the retail price, partly due to the impact of restaurant food preparation and overhead costs on consumer prices. In addition to agricultural (farm) costs, various other expenses are incurred in the food pipeline, including wages, salaries, and benefits for workers engaged in manufacturing and packaging; transportation and fuel; advertising; depreciation; rent, repairs; utilities; and interest costs. Lower sensitivity to commodity prices The financial results of packaged food companies are less sensitive to changes in raw material costs than are those of agribusiness companies, the major buyers of such commodities. The processing of agribusiness commodities is a low-margin, low-value-added business. By comparison, there is more value added at the packaging and marketing level; therefore, costs are less commodity-based and margins are easier to maintain from year to year. Marketing costs, which constitute a high proportion of total input costs for packaged food products, tend to be relatively stable. The packaged food producers’ active use of hedging techniques helps to limit their exposure to commodity price fluctuations. Their growing reliance on global sourcing of important raw materials helps further limit the impact of raw material shortages in a given geographic region. Typically, we think there is likely to be a lag effect in a company’s ability to pass along its higher commodity costs to consumers. In our view, rising ingredient costs have placed additional pressure on packaged food companies to operate their businesses efficiently, a focus that we see reflected in restructuring programs that include activities such as the consolidation of manufacturing facilities and reductions in the work force. Where the food dollar goes A dollar spent by a US consumer on food is shared at multiple levels in the value chain in the food industry. Part of the dollar goes from the farm (commodity level) to the manufacturer to the retailer. In between these broader levels, parts of the dollar are earned by parties involved in food transportation, distribution, and storage. The Economic Research Service at the US Department of Agriculture releases a food dollar series, which gives data on where the food dollar goes. According to the food dollar series, in 2010 (latest available), for every dollar spent in the US on domestically produced food, farmers received 14.1 cents. INDUSTRY SURVEYS

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AGRICULTURAL COSTS VARY Various factors affect farmers’ acreage allocation for different crops, including the prices they expect to receive and their cost of production. Then, once the crops are in the ground, weather can significantly affect how much is harvested and its quality. For farmers, the cost structure depends on what they are looking to produce. For example, the USDA estimates that for corn, operating costs per planted acre amounted to $332.34 in 2011, compared with just $136.87 for soybeans and $120.47 for wheat. For corn, fertilizer was a much larger expense, especially relative to soybeans. In addition, both corn and soybeans had considerably higher seed costs than wheat. Excluding overhead items, the USDA estimated a return of $505.43 per acre for corn, $388.49 for soybeans, and $168.18 for wheat. We expect that lower profits from wheat have contributed to more US acreage going to corn and soybeans, instead. For each of the crops, the USDA allocated additional overhead costs of between $165 and $284 per acre, for items such as land (e.g., opportunity cost of not renting it), capital recovery of machinery and equipment, and labor. A substantial part of the allocated overhead costs is likely to be non-cash items. However, farmers would have additional cash needs to purchase new equipment for the future. Based on USDA data, excluding government payments, but including overhead, corn acreage produced a profit $221.32 per acre in 2011, up sharply from just $8.95 per acre in 2009, and much better than the estimated $126.45 loss per acre in 2005, when crop prices were much lower. In comparison, farmers had a per-acre loss on wheat in six of the past seven years, with 2008 being the exception, when crop prices were relatively high. For soybeans, farmers had a profit of at $128.66 per acre in 2011, highest since the peak of $110.32 in 2008, with a higher price per bushel.

STORE LABELS AND PRODUCER BRANDS The maturity of the US food and beverage marketplace limits companies’ pricing flexibility. One of the best ways to enhance pricing power in this crowded market is to develop customer loyalty through brand awareness. Brand loyalty is the “holy grail” for all US consumer product companies, including those in the packaged food and beverage industries. It is no surprise that these companies are among the nation’s leading advertisers. By supporting their brands with advertising, food manufacturers are better positioned to charge higher prices than they would likely receive for lesser known products or brands. Private label goods—often, lower-priced products sold under a store’s own name or brand—are a constant threat to other branded goods, especially during times of economic weakness. We expect that private label sales account for about 18% of US food sales and about 13% of US beverage sales, with bottled water boosting the average for beverages. Private labels already have a substantial presence in the more commodity-like grocery categories. In general, consumers are likely to purchase items such as dairy and bakery products based more on price than brand name. However, private label or store brands have extended their reach to virtually every major grocery category, though penetration rates vary. Going forward, we anticipate that private label offerings will increasingly become available in higher priced product categories, including the growing organic food area.

FOOD AND BEVERAGE DISTRIBUTION Food and beverage companies distribute their products through various channels. To reach those channels, some companies use a direct-delivery system: they transport the product to a store, stock the store’s shelves, and order additional product when needed by the store. Under a warehouse system, companies deliver the product to a warehouse, and the retailer or a third party transports the product from the warehouse to a store.

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Channel mix “Channel mix” refers to the distribution channels through which beverage products are sold and the relative importance of each channel. The primary retail distribution channels for beverages are supermarkets, mass merchandisers, vending machines, convenience stores, fountain accounts (such as restaurants or cafeterias), and other outlets, which include small groceries, drugstores, and educational institutions. With food that US consumers purchase to eat at home, the importance of traditional grocery stores has declined in recent years, as nontraditional stores such as supercenters and warehouse club outlets have received a growing portion of food spending. With their larger size and variety, and ability to price aggressively, supermarkets have held their own better than other grocery stores. For 2011, S&P Capital IQ estimates that traditional food retailers accounted for less than 70% of food expenditures for at-home consumption, down from the 82% reported by the USDA for 1994.

GETTING IN AND STAYING IN On a local level, the barriers to entry in the US food and beverage industry are relatively low: the technological skills and financial resources required are not substantial. Although costs related to marketing and distribution are potentially significant, they can be kept to a minimum if there are enough neighboring food establishments where a company’s products can be sold. To succeed on a larger scale, however, the barriers are very high indeed. The capital requirements needed for manufacturing facilities alone can be prohibitive. Considering the high costs of marketing and distribution, it is little wonder that large corporations produce most of today’s food and beverage packaged goods. Growth strategies Given the capital requirements for large-scale production, food processors have three means of achieving growth. We focus on acquisitions, expanding distribution channels, and international sales.  Acquisitions. For many years, the fastest and most reliable way to increase sales in the highly mature food and beverage industry has been to acquire other businesses. However, unlike diversification efforts in the 1970s and 1980s, when food and beverage companies bought completely unrelated businesses, acquisitions since the 1990s have tended more often to be “add-ons”—lines of business that complement the acquirer’s existing operations.  Expanding distribution channels. Until recently, there was a steady long-term increase in away-fromhome eating, and many food and beverage companies have aggressively expanded their distribution outlets to reach more places where today’s consumers go to eat. This includes selling products to companies that specialize in distribution services (such as Sysco Corp.) or to food service businesses directly. Companies such as H.J. Heinz, ConAgra Foods Inc., and Campbell Soup Co. have formed divisions that are responsible for distributing the company’s grocery items through “food service outlets”—retail locations other than supermarkets. This strategy helps them participate directly in what was a long-term trend toward awayfrom-home eating and can serve as a relatively low-cost way to test-market new products.  International sales. International expansion lets companies participate in markets that may be growing faster—or that are much less competitive—than the mature US market. Many of the major US food and beverage companies initially entered foreign countries through joint ventures with local companies. This is a relatively low-cost way to participate in overseas markets, because it requires less initial investment than an outright acquisition. Through a joint-venture relationship, a US company can learn from its partner about the unique customs, tastes, and regulatory issues of a market. Once they have this market knowledge, many US companies acquire their joint venture partners and build on their businesses through more joint ventures or acquisitions.

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Low volatility in business cycles Companies in the processed food and beverage industries make products that are staples, and thus generally are less sensitive to declines in business activity than are companies in other industries. Because people must eat, they purchase food and drinks frequently; demand does not fluctuate significantly. As a result, food and beverage companies are considered defensive in nature and have historically been safe havens for investors during domestic economic downturns.

REGULATION Almost all food and beverage products in the United States are subject to regulations administered by the US Food and Drug Administration (FDA), or, for products containing meat and poultry, by the USDA. Among other activities, these agencies enforce statutory prohibitions against misbranded and adulterated foods, establish ingredients and/or manufacturing procedures for certain standard foods, set standards of identity for food, determine the safety of food substances, and establish labeling requirements for food products. In addition, individual states can be involved in the regulatory process. States may license and inspect food and beverage production facilities located within their borders. They may also enforce federal and state standards for identifying and grading products. Some impose their own labeling requirements. Many regulate trade practices concerning the sale of certain types of products. Many food commodities on which food and beverage businesses rely are subject to governmental agricultural programs. These programs, which can have substantial effects on prices and supplies, are subject to congressional review. Looking ahead, we expect that a growing emphasis on marketing the prospective health benefits of foods will place increased pressure on regulators to review and monitor the characteristics and labeling of such products.

FOOD AND BEVERAGE TRADE With approximately three-quarters of its profits generated in North America, the US packaged food industry is less exposed to developing and emerging markets than are beverage companies. This insulates it from the risks of foreign operations and provides a measure of profit protection when economic problems arise in other parts of the world. In contrast, beverage industry giants Coca-Cola and PepsiCo derive substantial profits from foreign operations. Thus, both companies have seen profits reduced periodically by negative foreign currency translations and regional variability in demand. Nonetheless, both sectors are becoming more global due to the maturity of their markets in developed nations. The United States is among the world’s leaders in both exporting and importing food and beverage products. The value of agricultural imports totaled $98.9 billion in 2011, according to the USDA, while the value of agricultural exports was $136.3 billion. Among both US exports and imports of foods, most of these processed foods have been characterized as “minimally processed” rather than “highly processed.” Minimally processed products include fresh and frozen meats, frozen fish, soybean oil, and canned fruits and vegetables. Worldwide, the US is a leading supplier in these industries, reflecting the nation’s efficiency in field crops and meat and poultry production. Although minimally processed products should continue to account for most exports in coming years, we expect that an increasing proportion of US processed food exports will be highly processed brand-name products, such as Wrigley chewing gum, Kellogg cereals, and Frito-Lay snacks. We think future growth of such products will be driven principally by rising incomes, plus changing demographics and eating habits in many developing countries.

KEY INDUSTRY RATIOS AND STATISTICS  Disposable personal income. Reported each month by the US Department of Commerce, this figure is a measure of Americans’ income after taxes. Changes in disposable personal income can influence how much 38

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consumers spend on food and beverage products. Although the quantity of such products consumed tends to remain relatively steady during both good times and bad, consumers are more likely to “trade down” to less expensive private label goods during recessions. Conversely, in good economic times, sales of branded packaged food and beverage products tend to get a boost. In 2011, US disposable personal income was up 3.8%, following an increase of 3.6% in 2010. As of December 2012, Standard & Poor’s Economics was projecting disposable personal income would increase 3.1% in 2012, followed by a 3.2% rise in 2013.  The consumer price index (CPI). Released monthly by the Bureau of Labor Statistics (BLS), a division of the US Department of Labor, the CPI for urban consumers measures the rate of price changes in a representative “basket” of consumer goods. This figure is used as a proxy for measuring inflation (or, more rarely, deflation) in the general economy. As of December 2012, Standard & Poor’s Economics was projecting a 2.1% CPI rise in 2012, and a 1.4% increase in 2013, following a 3.1% rise in 2011. The BLS reports that the CPI (unadjusted) for all urban consumers was up 1.8% in the 12 months ended November 2012. The index for food was also up 1.8%, while energy prices increased 0.3%. In November 2012 alone, the seasonally adjusted CPI was down 0.3%% from that of the prior month, while the food index was up 0.2% and the energy index declined 4.1%.  The producer price index (PPI). This measure, compiled by the BLS each month, tracks price inflation (or deflation) for raw materials used by the US manufacturing sector. The PPI is helpful in assessing the cost pressures facing manufacturers in general. A rise in the PPI may reflect cost pressures that hurt profit margins, because companies in the food and beverage industries normally cannot alter their selling prices quickly enough, or at all, to pass costs along to customers. They are largely constrained by two factors: a high level of price competition and, in some cases, contractual commitments with retailers that restrict price increases. During some or all of 2006–07, Standard & Poor’s Economics saw food manufacturers facing increased cost pressures from various raw materials or ingredients, including corn, wheat, soybeans, and milk. From November 2011 to November 2012, the unadjusted finished goods price index was up 1.5%; the index for finished consumer foods increased 2.6% in that period. The PPI for finished goods was down 0.8% in November 2012 (on a seasonally adjusted basis), after being down 0.2% in October, and up 1.1% in September.  Intermediate foods and feeds index. A subcomponent of the PPI compiled each month by the BLS, this index measures the prices of important commodities—such as flour, refined sugar, and vegetable oils—that require further processing to become finished food products. For the food industry in particular, this measure is more helpful and specific than the overall PPI. In November 2012, the unadjusted index for intermediate foods and feeds was up 7.2% from the year-ago level. On a seasonally adjusted basis, it was down 0.3% from the prior month (October 2012). The 7.2% year-to-year rise as of November 2012 included a 25.5% rise from processed eggs, an 18.1% increase from prepared animal feeds, and an 8.8% rise from flour.  Crude foodstuffs and feedstocks index. This subcomponent of the PPI, compiled each month by the BLS, measures the prices of commodities in an earlier stage of the production process. It includes such items as fluid milk, slaughter cattle, wheat, and corn. For the food industry as a whole, this index could be a leading indicator of future price changes in intermediate and finished products. In November 2012, the unadjusted index for crude foodstuffs and feedstocks was up 8.3% from the yearago level. On a seasonally adjusted basis, it was up 0.6% from the prior month (October 2012). The 8.3% year-to-year rise as of November 2012 included a 29.5% increase from slaughter chickens, and a 3.4% rise from slaughter cattle. Wheat and corn were up 16.9% and 14.2%, respectively.

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 Ending stocks–to-use ratio for agricultural crops. This is a way to look at inventory levels for agricultural crops, relative to recent use levels. For example, if at the end of a crop season, ending stocks totaled 10 million bushels, and the use of that crop in the most recent season was 50 million bushels, the leftover crop equaled 20% of recent use. A relatively low ending stocks ratio may set the stage for upward price pressure on future crop prices, especially if the upcoming harvest is disappointing. However, year-end inventories may exclude some early production from the new season.  Interest rates. The level and direction of interest rates may influence how active a company will be in making acquisitions and in other uses of cash, such as capital expenditures, dividends, and stock repurchases. High or rising interest rates increase the cost of borrowing; this in turn may reduce companies’ willingness to make big outlays, such as those needed to undertake a sizable facility expansion or a share repurchase program. The reverse is also true: low or falling interest rates decrease the cost of borrowing, thus making capital expenditures and the like more affordable. Longer-term US interest rates can be influenced by various factors, including credit demand, foreign investors’ interest in owning US debt, and the US inflation rate. As of December 2012, Standard & Poor’s Economics was projecting the interest rate on three-month Treasury bills (a proxy for short-term interest rates) would average 0.1% in both 2012 and 2013, following an average of 0.1% in 2011. The yield on 10-year notes (a proxy for longer-term rates) was projected to average 1.8% in 2012 and 2.0% in 2013, versus 2.8% in 2011.  Currency exchange rates. The exchange rates between the US dollar and foreign currencies are increasingly important, given the rising proportion of US food and beverage industry sales derived from markets outside the United States. For companies with significant operations in foreign markets, a decline in the value of the US dollar compared with foreign currencies generally boosts reported profits that are denominated in US dollars. This is because the foreign profits are translated into more dollars after foreign currency exchange rate translations. The reverse is also true: an increase in the value of the dollar relative to foreign currencies generally hurts the amount of reported dollar-denominated profits. Most of the long-established US food and beverage companies have sizable operations in Japan, the United Kingdom, and Europe, making the exchange rate of the US dollar against those regions’ currencies (the yen, pound, and euro, respectively) particularly important to reported industry profits. However, the impact of currency translation on dollar-denomination profits does not necessarily reflect a significant change in the underlying health of the company. In general, strengthening of the dollar is likely to adversely affect reported revenue and profits from foreign markets, while a weaker dollar is beneficial. However, the impact can be limited by hedging in the foreign currency markets. As of December 21, 2012, according to currency website www.xe.com, the value of the US dollar relative to the euro had weakened about 1.0% in the previous 12 months. Relative to the British pound, the dollar was down about 3.1% from where it was one year earlier, and against the Japanese yen, the dollar was up about 7.8%, year to year.  Imports and exports. Agriculture, food, and nonalcoholic beverages are global industries, and there is a considerable amount of related trade between various geographic regions. US food and beverage companies may have opportunities for growth in foreign markets that exceed their prospects in the US, due to such factors as rising income levels overseas. Alternately, we see the diversity of the US population leading to a growing interest in ethnic foods, some of which may already be more significant product areas in foreign cultures and markets. A monthly US Department of Agriculture report on agricultural imports and exports is at http://www.ers.usda.gov/data/FATUS/monthlysummary.htm.

HOW TO ANALYZE A FOOD OR BEVERAGE COMPANY A number of qualitative and quantitative factors should be considered when evaluating a food or beverage company. We focus on these elements below.

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QUALITATIVE ISSUES It is important to consider how well a company is positioned and managed. Analysts making such assessments ask various questions. How big is the company, and does it exploit the potential advantages of being either large or small? Can it raise the capital needed to maintain its operations and to grow? Has the company differentiated itself from its rivals in ways that give it a competitive advantage? What is the likelihood that other companies will turn up the competitive heat in its particular markets? Product mix When studying a packaged food or beverage company, one of the most important things to note is its product mix. Ideally, the company produces hard-to-copy goods with leading market shares and premium prices in growing categories. That situation is more often the exception than the rule, but it should be an important goal of any company that wants consistent sales and profit growth in the highly competitive food and beverage industries. One way that a company can differentiate its products in the minds of consumers is to develop wellrecognized and highly regarded brand names. Effective brand management fosters all-important consumer loyalty, which in turn creates the opportunity for market share growth and above-average pricing flexibility and profitability. A strong brand name also creates an opportunity for product line extensions and, in some cases, licensing fees and royalties. Business mix Observe the trends in a company’s business mix. Has the company been acquiring or divesting businesses? It is important to learn what is behind such activity. In some cases, a company can create synergies by combining similar businesses, with benefits including increased purchasing power, capacity utilization, and more products to send through an existing distribution network. However, acquiring multiple businesses with little in common can spread a company’s financial and managerial resources too thin. In addition, overpaying for acquisitions that do not contribute to a company’s earnings in the near term can be a strain on profit margins and finances. We also advise looking at a company’s product development efforts. How much is it spending on research and development, both in absolute dollars and as a percentage of sales? To what extent are new products contributing to overall sales? Regulatory environment With the growing interest in and popularity of organic and enhanced (e.g., with added vitamins) foods, and with concerns about food safety, we view the regulatory environment as increasingly important for food and beverage companies. We advise monitoring whether a company has incurred significant product recalls, and whether governmental or safety groups are calling attention to safety concerns related to a company’s products. However, in our view, one should keep in mind that a product recall does not mean there is a problem or a concern related to all of a company’s products. Information or definitions related to organic food can be found at the US Department of Agriculture’s website, at http://www.nal.usda.gov/afsic/pubs/ofp/ofp.shtml. Geographic diversity A company’s current geographic reach and its plans for international expansion are also important. Over the years, many major US food and beverage companies have fueled growth by expanding into international markets. We see a growing emphasis on developing markets such as Russia, China, and India. Some food and beverage companies now receive much of their current income from abroad. Diversification can help smooth earnings trends, as growth in one market can offset weakness in another. For some companies, however, international expansion can include sizable investments (acquisitions, new manufacturing facilities), which can hurt near-term earnings and do not guarantee an eventual payoff. Sometimes, in an effort to facilitate growth in a new market, a US company may work with a local joint venture partner that may already have established infrastructure and relationships. INDUSTRY SURVEYS

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Keep in mind that fluctuations in foreign currency values can influence the way that financial items (e.g., sales and earnings) are reported in US dollars. For companies with significant operations in foreign markets, a decline in the value of the US dollar compared with foreign currencies generally boosts reported US dollar profits. This is because the foreign profits are translated into more dollars after foreign currency exchange rate translations. The reverse is also true: an increase in the value of the dollar relative to foreign currencies generally hurts the amount of reported dollar-denominated profits. Moreover, remember that the impact of currency rate fluctuations on dollar-denominated profits does not necessarily reflect a significant change in the underlying health of the company. For example, if the US dollar appreciates relative to the euro, sales made in various European countries would translate into fewer dollars for US companies, even if sales measured in the local currencies are looking better. Information on foreign currency rates can be found on the financial pages of various periodicals, and on a number of websites. Although we think the long-term outlook for international sales is generally favorable, companies with business outside the US can also be affected by various trade factors, including tariffs, quotas, or even bans on some of their products. Management S&P Capital IQ looks favorably on seasoned management teams that have performed well, compared with their peers, in both good times and bad. However, some executives may be particularly good at containing costs, while others are better at creating new products or managing expansion. In evaluating a company, it is a good idea to look at top management’s track record—either at that company or at other firms—and to assess whether the skills demonstrated in the past match up well with the company’s current needs or goals. Financial strength In assessing a company’s financial strength, it is important to look at whether it is likely to have enough cash to operate its business well. We advise comparing the company’s cash interest costs with the amount of operating cash flow (before interest costs) that the business is expected to generate. It is also important to determine if a company is likely to seek additional funds (e.g., offering debt or equity) in the future, either to finance current operations, refinance existing debt, or to grow. A company’s financial strength affects its access to funds. We advise investors to look at whether a company’s debt has been rated by one of the major credit agencies, such as Standard & Poor’s Ratings Services or Moody’s. In general, debt instruments with a higher credit rating carry a lower interest rate than do those issued around the same time with a lower credit rating. However, once debt has been issued, the rating agencies may raise or lower their assessments in response to changes in business conditions.

QUANTITATIVE MEASURES When assessing any company, it is important to analyze income statement, cash flow, and balance sheet data. The measures of particular importance to food and beverage companies are described below. Analyzing the financial statements Looking at financial statements is important. Sources of information include quarterly and annual reports to shareholders, filings with the Securities and Exchange Commission (SEC), and reports put out by advisory firms (such as S&P Capital IQ and Value Line) and brokerage companies. Investors are increasingly able to hear corporate managements talk about their businesses, via conference calls or company-provided Webcasts, often around the time that they release their quarterly earnings. Sometimes there are presentation slides available at company websites. There are various significant financial considerations one should be aware of when analyzing a food or beverage company. We describe these considerations below. Sustainability of revenues and earnings When looking at both revenues and profits, try to determine whether contributions to the current results are likely to recur in future periods. If one-time factors have either inflated or depressed results in a prior period, 42

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these should be examined as well. For example, earnings may be unsustainably high due to a gain from an asset sale; conversely, they may be unusually low because of a restructuring charge or a one-time write-down in the value of an asset. Other items that can cause peculiarities in reported profits include unusual tax rates or the cumulative effect of an accounting change. If a particular earnings report contains a significant amount of one-time items, it is advisable to adjust the reported numbers to what would be considered “normalized” levels. This may provide a better base from which to project future levels of earnings. However, we advise looking at “one-time” items as well. The size, nature, and frequency of restructuring charges, write-downs, and asset sales gains can reflect strategic changes by management. In addition, such measures as return on overall investment (including the benefits or charges related to assets that were divested) show how well a company has been managed over time. One-time items can have significant implications for future results as well. For example, a restructuring charge can lead to cost savings in subsequent periods. In addition, while future operating results are likely to depend primarily on results from “continuing operations,” the company’s level of profit and loss from “discontinued operations” provides a view of how earlier investments have fared. Furthermore, some ongoing costs of doing business can change significantly due to macroeconomic and industry factors, or world events. For example, agricultural costs could rise due to drought conditions, or higher energy costs could result from political changes. While Wall Street often focuses on short-term profits, we believe that longer-term performance (five or 10 years) also should be assessed during a company evaluation. “Normalized” results (which exclude financial items generally expected to be nonrecurring, such as gains on asset sales and restructuring charges) should be considered, along with results that reflect all profit and loss factors, including one-time items. Accounting items to review There are various corporate accounting issues to consider. For example, an analyst should consider if the company has significant pension or employee benefit plans, and if it is accounting for them in a realistic and conservative manner. Also, keep in mind that a change in accounting standards can affect year-to-year comparisons when calculating growth rates for key items such as earnings. Looking at the income statement When analyzing a food or beverage company’s income statement, there are a number of important items to assess. Sales, profit margins, and earnings per share are among the major items, which we discuss below.  Sales. In reviewing sales, growth is good to see—but it is also relative. A company’s sales growth rate should be compared with those of both its markets and its competitors. It is important to determine what is behind any sales growth. Does it come from price increases or volume gains? Has the company made acquisitions? Is the company gaining market share, or is it just riding market growth? For many companies (especially beverage companies), it is also important to look at sales growth over a full year or on a year-over-year basis, rather than making sequential (quarter-to-quarter) comparisons. Seasonal factors can influence sales in any given quarter. Sales in quarters with warmer months typically constitute a greater proportion of total sales than sales in quarters with colder weather.  Profit margins. Profitability ratios or margins are measures of how successful a company is in turning revenues into profits. When analyzing profitability ratios, the analyst should compare a company against its own past performance and against the performance of similar companies. In our view, trends in profit margins should be evaluated. A number of factors—including acquisitions, fluctuations in necessary raw material costs, and changes in pricing—can cause significant volatility. A company’s cost structure should be examined. How important are raw material (e.g., ingredient) and labor costs? If raw materials are significant and their cost can be volatile, we advise trying to learn if the company has locked in a price on some of the costs for the year ahead. (Locking in a price is sometimes known as hedging.) If the company’s cost structure is significantly subject to fluctuations in commodity INDUSTRY SURVEYS

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prices, it is a good idea to keep an eye on the level and direction of such prices. Details on current and expected prices can be found in the financial pages of such periodicals as the Wall Street Journal and the New York Times, and on various websites. A company’s gross profit margin, which largely reflects manufacturing costs, will depend largely on the product mix and how it runs its business. Companies such as Coca-Cola and Kellogg Co. have among the highest gross profit margins in the food and beverage industries, helped by their strong brand names and high market share positions. A company’s operating margin performance includes selling, general, and administrative expenses. Marketing tends to be a significant cost for food and beverage companies, and is likely to influence sales growth. If a company has a good marketing plan, an investment in advertising and promotion should help enhance and bolster future sales. If a company scrimps on marketing outlays, longer-term growth prospects may diminish. If a company has provided good support for its brand and has a product that consumers like, this should help it to charge a premium price for a branded product and raise prices when necessary without causing a proportionate reduction in demand. In comparison, so-called private label products (typically store brands) are likely to receive less brand support, but tend to sell at lower prices. We advise keeping an eye on a company’s overall operating profit margin. If it starts to narrow, this could be a warning signal that the company’s cost structure is deteriorating. However, keep in mind that sometimes a company will incur additional short-term costs from which it expects to receive longer-term benefits. A company’s attention to cost containment can also be reflected in restructuring efforts, which often involve such actions as employee reductions, plant closings, and/or divestitures. We advise looking at whether a company’s restructuring efforts seem to be directed at a logical and favorable strategic result. The net profit margin reflects net income divided by sales (i.e., how much of each sales dollar ends up as after-tax income). For some processors of commodity-oriented food products, such as vegetables and livestock, net profit margins over the long term are likely to be relatively low—about 1% to 4%. Archer Daniels Midland Co. and Tyson Foods Inc. are two companies in this category. For some packaged food producers, such as Kellogg and H.J. Heinz Co., net profit margins typically range from 6% to 12%. A similar dichotomy is seen among beverage companies. For bottlers—the beverage companies that principally bottle and distribute the final product—net profit margins are relatively low; the common range is 2% to 4%. This reflects the high level of amortization of goodwill charges and acquisition-related interest expenses inherent in operating such a business. However, for companies such as Coca-Cola and PepsiCo Inc., which produce the syrups used in soft drinks, net profit margins are typically much higher.  Earnings per share (EPS). Earnings per share can be analyzed in a number of ways. Be on the lookout for special (sometimes called “extraordinary” or “nonrecurring”) items, such as asset sales and restructuring charges (e.g., for plant closings or employee layoffs) that can significantly affect the reported EPS. Adjusting EPS to exclude special items may provide a more meaningful growth comparison between different quarters or years. In addition, adjusted EPS can be an important benchmark for valuing the company’s stock against those of its peers, as well as against companies outside the industry. However, keep in mind that special charges may occur regularly over a multiyear period, and this should be considered when assessing the business. US accounting standards give companies substantial flexibility to prop up per-share earnings, at least for a short time. For example, this can be accomplished by repurchasing stock or by stretching out a depreciation schedule. In addition, year-to-year results may be affected by a more extensive accounting change, such as using a different method for valuing inventory. Cash flow analysis Reported earnings do not always provide a clear reflection of cash flow generation or financial strength. It is important to evaluate businesses based on how much cash they generate and absorb. These figures may

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differ substantially from reported earnings. To analyze sources and uses of cash, we advise consulting a company’s consolidated statement of cash flows. When looking at the income statement, be mindful that some expenses—such as depreciation, amortization, and write-downs in asset values—are likely to be noncash items (which do not require an outlay of cash). These noncash items tend to make a company’s pretax operating cash flows higher than its reported operating profit. However, companies frequently have cash outlays that are not included on the income statement, such as capital expenditures on new construction and renovations, debt repayment, and dividends to shareholders. These items, which appear on the cash flow statement and are reflected on the balance sheet, are sometimes discretionary and should be considered when evaluating a company’s cash flow. Most large US food and beverage companies have excess cash that can be used for things other than just maintaining existing equipment. It is important for a company to find the optimal balance between reinvesting surplus cash in its businesses and using the cash to reward present shareholders. In recent years, most US food and beverage companies have allocated a relatively large portion of their excess cash to shareholders’ return, through stock buybacks and dividends. A company’s dividend policy and stock repurchase activity may be affected by a variety of factors, including how much cash it generates and what the tax laws are. In our view, it is important to consider the liquidity (access to cash) of the company itself, as well as that of its suppliers and customers. The ability to produce a product could be hurt if a supplier experiences cash flow difficulty, and is unable to supply needed ingredients or materials. Financial problems for a distributor or a retailer could also affect a company’s ability to get paid in a timely manner for a product shipment. Balance sheet analysis Balance sheet ratios may offer a view of a company’s financial health. They also may indicate how well a company is putting its assets or capital to work. Book value measures the balance sheet value of a company’s assets minus its liabilities. Particular attention should be paid to “tangible” book value, which gives credit to assets like land, buildings, and equipment, but excludes items such as goodwill (which may include a portion of the purchase price of previous acquisitions). Keep in mind that balance sheet valuations may not reflect assets’ replacement cost or their worth to someone else. In addition, the extent to which intangible assets (like a brand name or customer loyalty) contribute to a company’s worth may not be adequately reflected in a company’s book value, even though they may add greatly to the company’s worth. Also, look for non-core assets that could possibly be divested, generating proceeds that may be used to reduce debt, repurchase stock, or invest in other businesses. When considering significant potential divestitures, it is advisable to take into account whether an asset sale likely would lead to a sizable tax bill. It is also advisable to consider whether a company’s physical assets are being adequately maintained or refreshed. For companies that own properties, a portion of capital spending typically goes toward maintaining or refreshing their facilities. This is sometimes known as maintenance capital expenditures, the level of which (actual or expected) may be detailed in company news releases or conference calls. Other capital expenditures may be oriented toward expansion or growth (expanding manufacturing capacity). Keep in mind that a company may own less than 100% of some of its assets. In cases where a company has a majority ownership interest in an asset or business, the smaller ownership stake of its partner(s) may be reflected on the liability side of the balance sheet in a line item known as “minority interest.” Alternatively, if a company owns less than 50% of an asset or a business, this may be reflected on the company’s balance sheet in a line item related to “investments.” A company’s success in investing its capital is indicated by ratios like return on assets (ROA) and return on equity (ROE). In these calculations, annual net income is typically divided into an average asset or equity level during the year being examined. INDUSTRY SURVEYS

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Balance sheet ratios should be examined to spot possible cash flow problems. A significant change in a company’s current ratio (the ratio of current assets to current liabilities) can signal a potential drain in the capital needed to run the business. An unusual inventory increase could lead to an asset write-down (because accounting rules require that product inventories be carried as close to their “market value” as possible) or a slowdown in production. The rate of inventory turnover (measured by the ratio of inventory to sales) can reveal productivity changes and production bottlenecks. The ratio of long-term debt to total capitalization varies considerably among the major food and beverage companies. However, companies with strong and relatively stable cash flow should generally be able to accommodate higher relative debt levels. In general, we see leading US food and beverage companies averaging a ratio of long-term debt to total capital in the area of 30% to 40%. The “optimal” amount of long-term debt depends on numerous variables; therefore, it is difficult to arrive at an exact figure. Analysts must weigh the benefits of higher debt, which could leverage EPS growth and shareholder returns, with the benefits of a “cleaner” balance sheet, which is likely to provide a higher degree of safety and more ready availability of funds. Too much debt increases financial risk, but too little might mean missed opportunities. Also, consider whether the company has any commitments or prospective liabilities that are not included on its balance sheet. This could include a conditional guarantee to repay debt of another firm (such as a franchisee) or a commitment to buy back, upon request, some of its own debt at a future point. Try to determine the existence or likelihood of any triggering events (e.g., weaker operating results) that could cause debt holders to demand early repayment.

VALUATION MEASURES Valuation measures are used to determine how much a company or its stock is worth. Common measurements include multiples of cash flow and earnings, with growth rates being used as a tool in deciding which multiple to pay. Keep in mind that valuations depend on various factors, including overall investor sentiment, industry conditions, the level of interest rates, and the extent to which future earnings seem predictable. As is the case with other measures, valuations of a particular company should be compared with those of similar companies in the same industry.  Price/earnings (P/E) ratio. When valuing a company’s stock, a good place to start is the basic investment ratio of stock price to earnings per share, called the price/earnings ratio. This ratio (or multiple) is useful in judging a company’s performance relative to firms in the same industry, as well as in other industries. In recent years, the major US food companies have tended to command higher P/E ratios than companies in other mature industries. This is attributable to the industry’s relatively good earnings performance, aboveaverage financial health, and low investment risk profile during this time.  Cash flow multiples. Companies may also be valued at a multiple of historical or projected cash flow. In an environment where there is considerable acquisition activity occurring, it may be helpful to look at prices that are being paid for companies. However, the acquisition environment may change: just because one company has been acquired, does not mean that another one will be purchased. 

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GLOSSARY Antioxidant—A substance found in various foods that may protect against an acceleration of the aging process, and the onset or development of some diseases. Foods thought to contain antioxidants include various types of berries and beans, broccoli, garlic, and soy. Caffeine—Found in many leaves, seeds, or fruits, caffeine can be a nervous system stimulant. Common sources include coffee, cola nuts, tea leaves, and cocoa beans. Calorie—The amount of energy needed to raise the temperature of one gram of water, from a standard starting point, by one degree centigrade. Energy drinks—Beverages that contain relatively high levels of caffeine and may also include ginseng. Well-known examples include Red Bull and Rockstar. Enriched foods—Foods with vitamins or minerals added to replace those lost when the food was processed. Fiber—With food, this typically refers to parts of fruits, vegetables, grains, nuts, and legumes that cannot be digested by humans. High-fiber diets may reduce risks of some disease. Fortified foods—Foods with additives (typically minerals or vitamins) that are intended to provide a benefit, such as combating a deficiency in the body or preventing disease. Functional beverages—Also called new age beverages, this category includes “all-natural” juices and iced herbal teas. Manufacturers seek to distinguish this category from traditional soft drinks by emphasizing health benefits and using innovative packaging designs. Functional confectionery—Confectionery items (such as cough drops and chewing gum) with decongestant, analgesic, antacid, or teeth-whitening properties. Functional foods—These are foods or ingredients that may provide health benefits that go beyond basic nutrition, such as lowering or preventing the risk of some disease. Genetically engineered (or modified) food—To produce such food, foreign genes are inserted into the genetic code of a natural item, such as a plant or an animal. Going green—A philosophy or process in which businesses or individuals emphasize renewable resources, conservation, and concern for the natural environment. In the food industry, this may include reducing energy usage, carbon emissions and waste, and using recyclable materials. Natural food—Typically, foods that are minimally processed and have no preservatives. Unlike “organic,” however, which has been defined by the USDA, “natural” has no official or certified USDA definition when applied to foods, and thus is not interchangeable with “organic.” Nutraceuticals—Sometimes considered synonymous with “functional,” nutraceuticals are ingredients or foods that may provide health benefits that go beyond basic nutrition. This may include enhancing the body’s digestive system, and preventing, treating, or reducing the risk of disease. Examples include beta-carotene (found in carrots and various fruits); insoluble fiber (e.g., wheat bran); prebiotics or probiotics (found in yogurt) and soy protein. Nutraceuticals may also refer to products taken from foods and sold in medicinal forms. Nutrient—A substance (e.g., proteins, carbohydrates, and vitamins) that can be metabolized by an organism to provide energy and build tissue.

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

Omega-3 fatty acids—Essential fatty acids found in certain fish and vegetable oils; possible benefits of eating Omega-3 fatty acids are thought to include reducing the risk of cardiovascular disease. Organic foods—These foods are typically produced by farmers who emphasize the use of renewable resources and the conservation and quality of soil and water. In the US, there are USDA standards for a food to be certified as organic. For example, organic meat, poultry, eggs, and dairy products are expected to come from animals that are given no antibiotics or growth hormones. In addition, according to the USDA, organic food is produced without the use of most conventional pesticides, fertilizers made with synthetic ingredients or sewage sludge, bioengineering, or ionizing radiation. Farms and processors that handle organic food must undergo a USDA-related certification process. However, the USDA makes no claims that organically produced food is safer or more nutritious than conventionally produced food. A product that carries the USDA Organic seal must be at least 95% organic. PET (polyethylene terephthalate)—A thermoplastic polymer resin of the polyester family that is used to make containers for foods, beverages, and other liquids. Private label—Products that are often marketed and sold under a retailer’s own brand, or under the brand of a distributor or wholesaler. Many supermarket chains sell products under their own labels. These goods may be produced by a company’s own facilities or by another manufacturer. Private label goods are likely to be sold at less expensive retail prices than non-private label products from national brand food manufacturers. However, private label goods also may receive considerably less advertising support. Probiotics—Dietary supplements that contain potentially beneficial bacteria, yeast, or microorganisms; may be found in foods such as yogurt, cereal, and cheese. Possible benefits include helping with digestive problems. Prebiotics are undigestable substances that encourage the growth of generally beneficial bacteria in the intestines. Ready meals—Prepackaged meals that are canned, frozen, dried, or fresh and are meant to be consumed immediately as is, or at the convenience of the customer following minimal reheating at home. Slotting fee—Fees charged by retailers to secure premium shelf positioning in stores. Manufacturers that pay slotting fees may have their products placed at favorable positions within store aisles; those that do not will have their products placed on less prominent shelves. Stockkeeping unit (SKU)—An individual product with a separate universal price code (UPC), a number given to every item to distinguish it from other merchandise for inventory and accounting purposes. Stocks-to-use ratio (S/U)—For any given commodity, S/U is the level of carryover stock as a percentage of the total use of the commodity; it is a measure of commodities’ supply and demand interrelationships. Sustainable agriculture—A food-growing process that is thought to be relatively healthy or favorable for consumers, animals, and the environment. Techniques used include conservation and preservation of land and other natural resources, crop rotation and minimal use of chemical pesticides, good care for animals, and fair treatment of workers. Trans fats—Fats that may raise “bad” (LDL) cholesterol levels and reduce “good” (HDL) cholesterol levels. Trans fats are naturally found in such foods as beef, butter, and milk, but are also found in processed foods such as margarines and frying fats, snacks, and baked goods. Whole grains—Thought to reduce risk of cardiovascular disease. Such grains are whole kernels, which include the grain’s bran, germ, and endosperm. Grains are the seeds or fruits of various plants, including wheat, corn, oats, rice, barley, and rye. 

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

INDUSTRY REFERENCES PERIODICALS Beverage Digest http://www.beverage-digest.com Biweekly newsletter; covers trends, news, and issues in the US beverage industry. Beverage Industry http://www.bevindustry.com Monthly; covers trends and issues in the US beverage industry. Beverage World http://www.beverageworld.com Monthly; covers trends and issues in the US beverage industry. Food Processing http://www.foodprocessing.com Monthly; covers strategic and technological issues facing the US food packaging industry. Milling & Baking News http://www.bakingbusiness.com Biweekly; covers the US milling and baking industry. Prepared Foods http://www.preparedfoods.com Monthly; follows trends in the US packaged food and beverage industries. Progressive Grocer http://www.progressivegrocer.com Trade magazine providing information to the retail food industry; published 18 times a year. Supermarket News http://www.supermarketnews.com Weekly trade magazine covering the food distribution industry. TRADE ASSOCIATIONS American Beverage Association http://www.ameribev.org Trade association for US nonalcoholic refreshment beverage industry. Grocery Manufacturers of America http://www.gmabrands.com Trade association of food, beverage, and consumer products companies. INDUSTRY SURVEYS

International Dairy Foods Association http://www.idfa.org Group seeking to represent the nationâ&#x20AC;&#x2122;s dairy manufacturing and marketing industries and their suppliers. National Confectioners Association http://www.candyusa.org Association seeking to represent the confectionary industry. Organic Trade Association http://www.ota.com Membership-based business association for the organic industry in North America. Private Label Manufacturers Association (PLMA) http://www.plma.com Trade association for the private label product industry. Organizes trade shows, publishes a newsletter and yearbook, conducts market research, and represents the industry in Washington. GOVERNMENT AGENCIES Bureau of Labor Statistics (BLS) http://stats.bls.gov Principal fact-finding agency for the federal government in the broad field of labor economics and statistics; a division of the US Department of Labor. The Food and Agriculture Organization of the United Nations http://www.fao.org Seeks to help developing countries modernize and improve agriculture, forestry, and fisheries practices, and ensure good nutrition. A source of information related to food and agriculture. US Department of Agriculture (USDA) http://www.usda.gov Government agency charged with providing key statistics on the US agricultural industry. US Department of Commerce http://www.commerce.gov Cabinet-level department providing key statistics on the US industry; its mission is to ensure and enhance economic opportunity by working with businesses and communities to promote economic growth.

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

MARKET RESEARCH AND OTHER INFORMATION Beverage Marketing Corp. http://www.beveragemarketing.com Provider of consulting, financial services, and data to the global beverage industry. Datamonitor plc http://www.datamonitor.com http://www.food-business-review.com http://www.drinks-business-review.com A provider of news, data, and analysis related to various industries, including food and beverages. EDGAR Database http://www.sec.gov/edgar/searchedgar/webusers.htm A site maintained by the US Securities and Exchange Commission that provides access to corporate documents, such as 10-Ks and 10-Qs. Euromonitor International http://www.euromonitor.com A provider of data and analysis of industries, countries, and consumers. The Food Institute http://www.foodinstitute.com Membership association providing news and information on the food and beverage industries.

FoodProductionDaily.com http://www.foodproductiondaily.com Online news service available as a free website; provides daily and weekly newsletters, with news stories and data intended to be of value to decision-makers in food and beverage production in Europe. The International Food Policy Research Institute (IFPRI) http://ifpri.org Organization seeking solutions for ending hunger and poverty, supported by the Consultative Group on International Agricultural Research, an alliance of various governments, private foundations, and international and regional organizations. Packaged Facts http://www.packagedfacts.com A site that provides research on the food, beverage, consumer packaged goods, and demographic sectors SymphonyIRI Group http://www. symphonyiri.com Supplier of food industry sales data; also provides analytics, software, and professional services .

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

COMPARATIVE COMPANY ANALYSIS Operating Revenues Million $ Ticker

Com pany

Yr. End

2011

2010

2009

2008

CAGR (%) 2007

2006

2001

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

543.9 A 522.5 A 1,113.1 7,719.0 13,262.6 A

513.3 398.4 942.0 7,676.0 12,303.1 D

501.0 344.8 910.1 7,586.0 12,079.4 D

486.9 361.5 928.8 7,998.0 12,731.2

A A D D

471.3 303.0 915.9 7,867.0 11,605.7 D

411.3 273.9 598.1 7,343.0 D 12,047.2 D

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

13,055.5 965.9 2,773.4 A 16,657.9 2,650.9 A

12,122.9 D 680.2 A 2,573.8 14,880.2 1,356.8 A

11,158.4 570.9 A 2,600.8 A 14,796.5 803.0 A

12,454.6 531.5 2,414.9 A 14,691.3 500.3

11,821.9 522.6 2,036.7 13,652.1 C 341.7

10,098.6 477.2 1,888.7 12,442.0 225.3

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

1,130.3 11,649.1 6,080.8 7,895.1 744.1

917.3 A 10,706.6 A 5,671.0 7,220.7 696.7

1,135.3 10,495.0 D 5,298.7 6,533.7 653.0

1,056.4 A 10,148.1 5,132.8 6,754.9 629.4

900.4 A 10,070.8 4,946.7 6,193.0 568.9 A

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

13,198.0 18,710.0 1,089.9 3,697.6 A 3,677.0

12,397.0 17,840.0 D 1,056.6 3,336.8 3,141.6

12,575.0 NA 1,051.5 3,192.1 2,826.5

12,822.0 NA 980.9 D 3,176.6 A 2,882.4

11,776.0 NA 1,091.2 D 2,916.2 2,576.4

10,906.7 NA 1,175.3 2,716.4 2,345.1

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

DEC SEP SEP OCT # MAR

54,366.0 968.2 3,787.2 D 1,978.1 1,261.8

49,207.0 A,C 996.7 4,048.5 A 1,925.4 1,194.6 A

40,386.0 NA 3,891.9 A 1,789.5 1,280.1

42,201.0 D NA 2,824.4 A 1,723.6 1,280.7

37,241.0 NA 2,233.4 A 1,474.8 1,080.7

34,356.0 NA 1,850.2 A 1,047.9 1,024.9 A

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

# APR # APR DEC DEC DEC

13,094.3 5,525.8 A 1,635.0 532.5 2,050.0

12,202.7 4,825.7 981.8 A 521.4 1,817.0 A

11,202.6 4,605.3 918.2 A 499.3 1,511.7

12,487.7 3,757.9 A 852.5 496.0 1,500.7

11,351.2 2,524.8 762.7 497.7 1,157.9

11,911.1 A,C 2,148.0 730.1 D 496.0 939.4 A

TSN

[] TYSON FOODS INC -CL A

A,C A D A

A,C A A A

738.6 A 9,001.6 4,944.2 C 5,745.5 514.8

2011

2010

2009

2008

2007

NA 9.2 13.1 1.5 (7.1)

5.7 13.8 13.2 1.0 1.9

5.9 31.2 18.2 0.6 7.8

** 240 341 116 48

** 183 289 115 45

** 158 279 114 44

** 166 285 120 46

NA 139 281 118 42

6,230.1 A NA 1,629.0 7,949.0 A,C 95.6

7.7 NA 5.5 7.7 39.4

5.3 15.1 8.0 6.0 63.7

7.7 42.0 7.8 11.9 95.4

210 195 ** ** 170 158 210 187 2,774 1,420

179 ** 160 186 840

200 ** 148 185 523

190 NA 125 172 357

412.9 9,431.0 C 4,557.2 4,124.1 A 351.7

10.6 2.1 2.9 6.7 7.8

8.9 5.3 4.2 6.6 7.6

23.2 8.8 7.2 9.3 6.8

274 124 133 191 212

222 114 124 175 198

275 111 116 158 186

256 108 113 164 179

218 107 109 150 162

8,853.3 A,C NA 1,098.5 C 2,372.3 NA

4.1 NA (0.1) 4.5 NA

3.9 NA (1.5) 6.4 9.4

6.5 4.9 3.2 10.8 17.0

149 ** 99 156 **

140 ** 96 141 **

142 ** 96 135 **

145 ** 89 134 **

133 NA 99 123 NA

33,875.0 NA 1,178.0 706.0 651.1

4.8 NA 12.4 10.9 6.8

9.6 NA 15.4 13.5 4.2

10.5 (2.9) (6.5) 2.7 5.6

160 ** 321 280 194

145 ** 344 273 183

119 ** 330 253 197

125 ** 240 244 197

110 NA 190 209 166

7,356.1 687.1 582.9 423.5 NA

5.9 23.2 10.9 2.3 NA

1.9 20.8 17.5 1.4 16.9

7.3 14.5 66.5 2.1 12.8

178 804 280 126 **

166 702 168 123 **

152 670 158 118 **

170 547 146 117 **

154 367 131 118 NA

4.8

13.5

300

264

248

250

SEP

32,266.0

28,430.0

26,704.0

26,862.0 D

26,900.0

25,559.0

10,751.0 A

11.6

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

46,565.0 A 8,284.0 5,903.0 1,703.2 66,504.0

35,119.0 A 6,714.0 A 5,636.0 1,303.9 57,838.0

30,990.0 21,645.0 5,531.0 1,143.3 43,232.0

31,944.0 21,807.0 5,710.0 1,033.8 43,251.0

28,857.0 20,936.0 5,748.0 A 904.5 39,474.0

24,088.0 19,804.0 4,735.0 A 605.8 35,137.0

20,092.0 15,700.0 A NA 92.3 26,935.0 A

8.8 14.1 (6.2) (16.0) NA 4.5 33.8 23.0 9.5 13.6

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

80,676.0 1,797.2 6,544.0

61,682.0 724.9 A 4,632.0 A

69,198.0 A 597.8 3,890.0

69,816.0 A 807.5 4,197.0

44,018.0 A,C 645.3 3,628.0 C

36,596.1 A 407.0 A 2,844.0

20,051.4 256.0 2,034.0 C

14.9 21.5 12.4

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

Index Basis (2001 = 100)

5-Yr. 1-Yr.

NA 217.7 A 326.2 6,664.0 C 27,629.6 C

10-Yr.

32.6 23.4 4.7 30.6 15.0

17.1 30.8 34.6 147.9 18.1 41.3

232 175 154 159 53 43 138 139 ** ** ** ** 1,846 1,413 1,239 1,120 247 215 161 161

402 702 322

308 283 228

345 234 191

348 315 206

144 133 NA 980 147

220 252 178

Operating Revenues Million $ Ticker

Com pany

Yr. End

2011

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 3,139.3 DOLE DOLE FOOD CO INC DEC 7,223.8 A FDP FRESH DEL MONTE PRODUCE INC DEC 3,589.7 PPC PILGRIM'S PRIDE CORP DEC 7,535.7 UN UNILEVER NV -ADR DEC NA OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 1,561.2 KOF COCA-COLA FEMSA DE C V -ADR DEC 8,939.5 A COT COTT CORP QUE DEC 2,334.6 FIZZ NATIONAL BEVERAGE CORP # APR 628.9

2010

3,227.4 C 6,892.6 3,552.9 6,881.6 31,287.0

1,514.6 8,355.0 1,803.3 A 600.2

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS BG BUNGE LTD DEC 58,743.0 45,707.0

2009

3,470.4 6,778.5 D 3,496.4 7,088.1 31,411.4

1,443.0 7,870.3 1,596.7 593.5

41,926.0

2008

3,609.4 7,620.0 3,531.0 8,525.1 30,772.1

CAGR (%) 2007

D D A D

4,662.8 6,931.0 D 3,365.5 7,598.6 A 35,193.2

1,463.6 5,998.8 A 1,648.1 575.2

1,436.0 6,343.5 A 1,776.4 566.0

52,574.0

37,842.0

2006

4,499.1 6,171.5 D 3,214.3 5,235.6 36,128.1 D

1,431.0 5,346.4 1,771.8 539.0

26,274.0

2001

2,242.3 4,449.3 D 1,928.0 C 2,214.7 A 31,673.3

1,022.7 1,911.7 1,090.1 502.8

11,484.0 D

10-Yr.

Index Basis (2001 = 100)

5-Yr. 1-Yr.

2011

2010

2009

2008

2007

3.4 5.0 6.4 13.0 NA

(6.9) 3.2 2.2 7.6 NA

(2.7) 4.8 1.0 9.5 NA

140 162 186 340 NA

144 155 184 311 99

155 152 181 320 99

161 171 183 385 97

208 156 175 343 111

4.3 16.7 7.9 2.3

1.8 10.8 5.7 3.1

3.1 7.0 29.5 4.8

153 468 214 125

148 437 165 119

141 412 146 118

143 314 151 114

140 332 163 113

17.7

17.5

28.5

512

398

365

458

330

Note: Data as originally reported. CAGR-Compound annual grow th rate. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year. **Not calculated; data for base year or end year not available. A - This year's data reflect an acquisition or merger. B - This year's data reflect a major merger resulting in the formation of a new company. C - This year's data reflect an accounting change. D - Data exclude discontinued operations. E - Includes excise taxes. F - Includes other (nonoperating) income. G - Includes sale of leased depts. H - Some or all data are not available, due to a fiscal year change.

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

Net Income Million $ Ticker

Com pany

Yr. End

2011

2010

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

55.0 923.2 629.0 474.2 55.1

28.6 989.5 509.8 395.6 48.4

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

1,231.0 1,839.0 106.4 374.2 508.5

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

DEC SEP SEP OCT # MAR

3,527.0 (361.3) 126.3 (127.1) 11.3

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

# APR # APR DEC DEC DEC

TSN

[] TYSON FOODS INC -CL A

2008

CAGR (%) 2007

2006

Index Basis (2001 = 100)

2001

10-Yr.

5-Yr.

1-Yr.

2011

2010

2009

2008

2007

32.4 17.8 60.8 844.0 828.5

17.4 13.6 67.8 732.0 747.3

9.7 7.7 79.5 671.0 646.4

17.8 7.3 151.9 823.0 518.7

11.6 5.8 36.7 755.0 683.8

NA 3.8 (10.6) 649.0 785.0

NA 11.2 NM 2.2 (5.0)

34.1 13.8 19.6 1.3 (7.3)

55.2 (37.7) 47.5 (4.6) (43.5)

** 288 NM 124 60

** 463 NM 130 106

** 355 NM 113 95

** 201 NM 103 82

NA 191 NM 127 66

86.5 26.2 137.0 1,798.3 79.5

240.2 23.7 130.3 1,530.5 55.9

184.8 14.8 119.2 1,304.4 22.3

130.5 8.4 94.6 1,294.7 12.8

280.3 7.3 74.9 1,144.0 8.4

115.6 NA (18.2) 461.0 5.8

NM NA NM 13.0 42.5

NM 46.9 10.5 6.5 88.2

NM 91.6 (9.9) (12.8) 150.9

(1,366) ** NM 340 3,450

75 ** NM 390 1,375

208 ** NM 332 966

160 ** NM 283 386

113 NA NM 281 222

(24.7) 914.5 436.0 342.8 41.3

41.2 923.1 311.4 285.5 27.9

47.5 844.9 214.2 301.9 32.1

37.1 791.6 559.1 286.1 29.5

23.6 833.9 207.2 182.4 11.9

8.8 1.0 11.7 10.0 16.6

8.2 3.1 2.4 10.6 13.3

92.1 (6.7) 23.4 19.9 13.7

233 111 304 260 464

121 119 246 217 408

(105) 110 210 188 348

175 111 150 156 235

201 101 103 165 270

1,247.0 1,887.0 115.0 370.2 452.7

1,212.0 NA 89.1 299.8 399.6

1,148.0 NA 48.4 255.8 393.9

1,103.0 NA 64.7 230.1 422.5

1,004.1 NA 83.0 202.2 398.2

482.0 NA 90.2 146.6 NA

9.8 NA 1.7 9.8 NA

4.2 NA 5.1 13.1 5.0

(1.3) (2.5) (7.5) 1.1 12.3

255 ** 118 255 **

259 ** 127 253 **

251 ** 99 205 **

238 ** 54 174 **

229 NA 72 157 NA

2,470.0 92.0 208.8 134.8 17.7

3,021.0 NA 290.4 82.3 48.4

1,849.0 NA 167.8 (43.1) 18.8

2,590.0 NA 31.9 78.8 8.0

3,060.0 NA 68.3 (11.5) 32.1

1,882.0 NA 39.9 27.8 1.1

6.5 NA 12.2 NM 25.7

2.9 NA 13.1 NM (18.9)

42.8 NM (39.5) NM (36.3)

187 ** 317 (457) 987

131 ** 523 485 1,550

161 ** 728 296 4,247

98 ** 421 (155) 1,646

138 NA 80 284 703

361.3 459.7 38.3 43.9 94.4

521.0 479.5 2.5 53.7 90.9

(101.4) 494.1 35.8 53.5 81.3

(242.8) 266.0 17.7 38.8 28.6

139.2 170.4 23.8 51.6 41.7

188.4 157.2 18.4 65.9 44.7

196.9 30.9 23.8 65.7 NA

6.3 31.0 4.9 (3.9) NA

13.9 (30.7) 23.9 (4.1) 15.8 1,423.0 (7.8) (18.2) 16.1 3.8

184 1,490 161 67 **

265 1,554 11 82 **

(52) 1,602 151 81 **

(123) 862 74 59 **

71 552 100 79 NA

SEP

750.0

780.0

(536.0)

86.0

268.0

(191.0)

88.0

23.9

305

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

8,572.0 749.0 606.0 286.2 6,443.0

11,809.0 624.0 528.0 212.0 6,320.0

6,824.0 731.0 555.0 208.7 5,946.0

5,807.0 (4,394.0) (312.0) 108.0 5,142.0

5,981.0 711.0 497.0 149.4 5,658.0

5,080.0 (1,143.0) 510.0 97.9 5,642.0

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

2,036.0 169.4 416.0

1,930.0 44.2 169.0

1,707.0 41.8 41.0

1,802.0 54.6 267.0

2,162.0 45.5 198.0

1,312.1 5.1 124.0

INDUSTRY SURVEYS

50.2 11.1 89.7 805.0 467.8

2009

(1,579.2) 50.2 123.4 1,567.3 199.5

3,979.0 (19.0) NA 3.0 2,662.0

8.0 NM NA NM 9.2

383.3 (11.8) 57.0

18.2 NM 22.0

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

(3.8)

852

886

(609)

11.0 NM 3.5 23.9 2.7

(27.4) 20.0 14.8 35.0 1.9

215 NM ** NM 242

297 NM ** NM 237

172 NM ** NM 223

146 NM ** 3,578 193

150 NM NA 4,949 213

5.5 282.9 146.2

531 NM 730

504 NM 296

445 NM 72

470 NM 468

564 NM 347

9.2 101.4 27.4

Net Income Million $ Ticker

Com pany

Yr. End

2011

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 56.8 DOLE DOLE FOOD CO INC DEC 38.2 FDP FRESH DEL MONTE PRODUCE INC DEC 92.5 PPC PILGRIM'S PRIDE CORP DEC (496.8) UN UNILEVER NV -ADR DEC NA OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 28.6 KOF COCA-COLA FEMSA DE C V -ADR DEC 760.9 COT COTT CORP QUE DEC 37.6 FIZZ NATIONAL BEVERAGE CORP # APR 44.0

CAGR (%)

Index Basis (2001 = 100)

2010

2009

2008

2007

2006

2001

10-Yr.

5-Yr.

1-Yr.

2011

2010

2009

2008

2007

60.6 (37.7) 62.2 87.1 3,446.0

91.2 81.1 143.9 (152.2) 2,969.6

(325.2) 145.1 157.7 (992.2) 4,083.8

(49.0) (57.9) 179.8 47.0 3,054.9

(95.9) (92.0) (145.1) (34.2) 2,904.7

(118.8) (37.1) 96.2 42.0 727.2

NM NM (0.4) NM NA

NM NM NM NM NA

(6.2) NM 48.7 NM NA

NM NM 96 (1,182) **

NM NM 65 207 474

NM NM 150 (362) 408

NM NM 164 (2,361) 562

NM NM 187 112 420

36.1 791.4 54.7 40.8

38.1 652.7 81.5 32.9

9.1 404.7 (122.8) 24.7

19.9 632.8 (71.4) 22.5

23.2 452.2 (17.5) 24.7

9.5 248.1 39.9 16.6

11.7 11.9 (0.6) 10.3

4.2 11.0 NM 12.3

(20.7) (3.9) (31.3) 7.9

302 307 94 266

381 319 137 246

403 263 204 198

96 163 (308) 149

210 255 (179) 136

778.0

521.0

124.0

22.5

12.6

(60.0)

760

1,898

291

858

627

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS BG BUNGE LTD DEC 942.0 2,354.0

361.0

1,064.0

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

Return on Revenues (%) Ticker

Com pany

Return on Assets (%)

Return on Equity (%)

Yr. End

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

9.2 2.1 8.1 10.4 3.5

6.3 4.5 6.5 11.0 6.7

3.5 3.9 7.5 9.6 6.2

2.0 2.1 8.6 8.4 5.1

3.8 2.4 16.6 10.5 4.5

5.0 6.6 13.1 12.3 4.1

3.8 13.0 9.6 13.7 7.2

2.1 10.6 11.2 11.7 6.6

1.2 5.9 14.7 10.4 5.2

2.4 6.2 35.1 11.5 4.1

21.6 12.0 20.0 79.9 10.2

14.2 22.5 15.3 102.1 17.2

9.4 20.2 19.1 71.6 15.5

6.1 11.1 26.2 51.4 12.9

14.3 11.0 70.4 53.7 10.5

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

NM 5.2 4.5 9.4 7.5

0.7 3.9 5.3 12.1 5.9

2.2 4.2 5.0 10.3 7.0

1.5 2.8 4.9 8.9 4.5

1.1 1.6 4.6 9.5 3.8

NM 4.0 8.6 7.9 8.7

1.1 3.2 10.2 9.9 7.3

3.2 7.1 9.6 8.6 9.5

2.6 5.8 10.2 7.1 7.2

1.9 3.4 10.0 7.0 5.2

NM 12.0 15.9 24.5 15.3

6.1 9.5 18.1 30.6 12.3

25.2 14.9 19.3 28.9 15.3

60.7 10.9 18.5 22.9 18.7

14.0 7.1 15.5 22.4 14.8

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

4.9 7.9 10.3 6.0 7.4

3.1 9.2 9.0 5.5 6.9

NM 8.7 8.2 5.2 6.3

3.9 9.1 6.1 4.2 4.4

5.3 8.4 4.3 4.9 5.6

4.3 7.6 14.5 11.4 10.6

2.5 8.9 12.8 10.2 10.5

NM 9.3 11.9 9.4 9.7

3.6 9.1 7.9 8.1 7.1

4.9 8.2 5.1 9.4 8.9

6.7 31.5 71.8 18.8 13.5

3.9 39.6 62.8 17.5 13.4

NM 58.8 84.0 16.6 12.5

5.7 59.4 68.4 14.7 9.1

7.2 45.3 33.6 16.4 11.5

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

9.3 9.8 9.8 10.1 13.8

10.1 10.6 10.9 11.1 14.4

9.6 NA 8.5 9.4 14.1

9.0 NA 4.9 8.1 13.7

9.4 NA 5.9 7.9 16.4

10.4 8.5 17.6 10.0 20.1

10.8 NA 21.2 10.9 20.7

10.9 NA 17.5 9.1 23.3

10.3 NA 8.7 8.5 29.6

10.0 NA 10.5 8.6 33.7

62.8 10.9 21.2 24.5 NA

56.3 NA 25.9 26.6 NA

65.2 NA 23.4 25.1 NA

57.8 NA 12.1 23.9 NA

48.0 NA 13.8 22.8 69.5

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

DEC SEP SEP OCT # MAR

6.5 NM 3.3 NM 0.9

5.0 9.2 5.2 7.0 1.5

7.5 NA 7.5 4.6 3.8

4.4 NA 5.9 NM 1.5

7.0 NA 1.4 5.3 0.7

3.7 NM 1.9 NM 1.5

3.0 NA 3.4 18.2 2.4

4.7 NA 5.4 12.5 6.9

2.8 NA 4.7 NM 2.8

4.2 NA 1.9 14.5 1.2

9.9 NM 4.7 NM 3.2

8.0 NA 7.5 25.0 5.4

12.6 NA 11.4 21.0 18.7

7.5 NA 11.6 NM 8.9

9.3 NA 6.6 21.5 3.9

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

# APR # APR DEC DEC DEC

2.8 8.3 2.3 8.3 4.6

4.3 9.9 0.3 10.3 5.0

NM 10.7 3.9 10.7 5.4

NM 7.1 2.1 7.8 1.9

1.2 6.7 3.1 10.4 3.6

4.8 5.3 2.6 5.1 3.9

6.8 5.9 0.3 6.3 4.8

NM 6.1 7.1 6.5 5.9

NM 4.7 4.0 4.8 2.0

1.8 5.9 6.0 6.4 3.5

10.4 8.8 4.6 6.6 9.2

16.5 9.0 0.5 8.1 10.5

NM 9.6 14.0 8.3 11.8

NM 7.9 7.3 6.1 4.6

5.3 9.5 10.1 8.1 6.9

TSN

[] TYSON FOODS INC -CL A

SEP

2.3

2.7

0.3

1.0

6.9

7.3

0.8

2.5

13.9

16.4

1.8

5.8

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

18.4 9.0 10.3 16.8 9.7

33.6 9.3 9.4 16.3 10.9

22.0 3.4 10.0 18.3 13.8

18.2 NM NM 10.5 11.9

20.7 3.4 8.6 16.5 14.3

11.2 8.5 6.7 23.4 9.1

19.4 5.0 6.0 22.5 11.7

15.3 4.6 6.4 26.7 15.7

13.9 NM NM 16.5 14.6

16.3 3.0 5.0 35.0 17.5

27.4 24.8 25.7 31.7 30.7

42.3 31.2 18.7 30.0 33.1

30.1 176.6 19.2 40.9 40.8

27.5 NM NM 25.2 34.8

30.9 13.9 12.0 46.2 34.5

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

2.5 9.4 6.4

3.1 6.1 3.6

2.5 7.0 1.1

2.6 6.8 6.4

4.9 7.1 5.5

5.5 12.1 8.0

6.1 4.9 4.2

5.0 10.2 1.3

5.8 14.6 8.5

9.3 13.5 6.9

12.2 24.5 20.4

13.7 11.8 9.2

12.6 16.0 2.7

14.6 24.9 17.9

20.5 25.8 13.5

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

Return on Revenues (%) Ticker

Com pany

Yr. End

2011

Return on Assets (%)

Return on Equity (%)

2010

2009

2008

2007

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 1.8 1.9 DOLE DOLE FOOD CO INC DEC 0.5 NM FDP FRESH DEL MONTE PRODUCE INC DEC 2.6 1.8 PPC PILGRIM'S PRIDE CORP DEC NM 1.3 UN UNILEVER NV -ADR DEC NA 11.0

2.6 1.2 4.1 NM 9.5

NM 1.9 4.5 NM 13.3

NM NM 5.3 0.6 8.7

2.8 0.9 3.7 NM NA

2.9 NM 2.4 2.8 10.6

4.5 1.9 5.5 NM 9.2

NM 3.2 6.5 NM 12.1

NM NM 8.4 1.5 8.9

7.4 4.8 5.6 NM NA

8.7 NM 3.8 14.2 17.0

16.5 13.1 9.1 NM 17.3

NM 39.9 11.0 NM 29.7

NM NM 15.1 4.1 28.0

OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 1.8 KOF COCA-COLA FEMSA DE C V -ADR DEC 8.5 COT COTT CORP QUE DEC 1.6 FIZZ NATIONAL BEVERAGE CORP # APR 7.0

2.6 8.3 5.1 5.5

0.6 6.7 NM 4.3

1.4 10.0 NM 4.0

2.1 7.6 2.5 21.7

2.8 8.9 4.6 19.3

2.9 8.4 9.3 13.0

0.7 5.4 NM 9.8

1.5 8.5 NM 9.1

22.1 11.9 7.0 43.6

29.5 14.6 12.0 36.8

39.6 14.3 26.5 21.1

9.2 9.5 NM 15.7

18.5 15.4 NM 14.9

0.9

2.0

2.1

3.7

9.7

1.4

4.7

4.1

8.1

23.5

4.1

16.1

13.0

2.4 9.5 3.0 6.8

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS BG BUNGE LTD DEC 1.6 5.2

Note: Data as originally reported. ‡S&P 1500 index group. []Company included in the S&P 500. †Company included in the S&P MidCap 400. §Company included in the S&P SmallCap 600. #Of the follow ing calendar year.

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

Current Ratio Ticker

Com pany

Debt as a % of Net Working Capital

Debt / Capital Ratio (%)

Yr. End

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

2.1 1.1 3.1 1.0 1.4

3.5 1.3 3.3 0.8 1.8

3.4 1.3 2.9 1.0 1.9

3.3 1.4 2.3 0.7 2.1

2.9 1.5 2.2 0.8 1.7

67.5 15.0 11.1 62.5 35.9

59.3 5.9 14.4 62.2 34.7

58.7 16.1 20.5 69.9 37.4

71.3 26.7 24.4 49.4 39.9

68.7 13.4 24.2 55.7 36.3

906.6 211.1 21.5 NM 287.7

310.5 41.1 30.9 NM 161.8

375.8 110.8 47.6 NM 167.7

468.5 164.5 84.0 NM 196.5

465.5 80.2 78.4 NM 139.3

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

1.1 1.5 1.4 1.0 2.4

1.3 1.4 1.3 1.1 2.1

1.1 1.5 1.5 0.9 4.3

1.0 2.2 1.3 1.0 2.1

1.6 2.2 1.3 0.7 1.5

95.0 45.5 26.3 42.2 21.3

63.3 49.6 10.3 42.5 29.8

66.8 36.4 22.5 45.6 10.6

80.3 12.1 27.4 46.6 43.4

90.8 14.0 3.1 35.5 43.4

NM 542.8 257.3 NM 87.2

NM 715.1 139.4 NM 130.4

NM 194.6 192.8 NM 17.6

NM 16.6 302.7 NM 156.0

875.3 20.2 40.5 NM 292.6

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

2.2 1.5 1.7 2.6 3.4

2.3 0.9 1.5 1.7 3.1

2.6 1.4 1.5 2.3 3.1

2.7 1.4 1.1 1.8 2.7

2.7 1.2 0.9 1.9 2.6

20.0 56.4 67.3 8.6 0.1

21.9 42.7 63.1 0.0 0.2

26.2 64.1 67.6 14.2 0.1

27.8 75.8 81.0 14.8 0.1

22.9 66.7 61.4 15.7 0.2

114.6 387.3 200.3 20.5 0.3

128.6 NM 218.3 0.0 0.4

121.5 520.6 316.5 39.3 0.2

124.9 575.4 NM 53.3 0.3

108.5 721.7 NM 61.7 0.5

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

0.9 1.3 4.4 1.2 1.6

0.9 1.4 4.1 1.2 1.5

1.1 NA 3.0 1.2 1.2

0.7 NA 2.6 0.9 1.1

0.7 NA 2.0 1.1 1.2

67.8 0.1 0.0 38.1 112.8

63.2 0.2 0.0 34.2 126.9

64.2 NA 0.0 39.0 182.2

70.0 NA 13.2 44.5 292.8

50.8 NA 0.0 33.3 0.0

NM 3.9 0.0 448.5 222.1

NM 3.3 0.0 430.6 324.1

NM NA 0.0 574.5 629.5

NM NA 38.0 NM NM

NM NA 0.0 470.9 0.0

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

DEC SEP SEP OCT # MAR

0.9 1.0 1.5 3.9 4.6

1.0 2.0 1.4 3.2 2.1

1.1 NA 2.0 3.1 4.0

1.0 NA 1.7 3.4 3.1

0.6 NA 1.8 2.6 4.2

35.5 28.1 43.3 32.9 39.0

38.0 22.5 41.2 8.5 20.1

37.2 NA 33.7 18.5 38.1

41.4 NA 35.6 37.6 40.5

28.6 NA 59.3 18.7 47.2

NM NM 673.0 84.4 53.4

NM 984.2 986.4 26.1 30.6

NM NA 339.1 63.4 51.4

NM NA 652.1 119.4 57.8

NM NA 435.8 75.5 67.6

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

# APR # APR DEC DEC DEC

2.9 2.7 2.5 3.6 2.7

2.7 3.4 1.7 4.1 2.2

2.8 2.6 1.9 3.8 2.5

2.2 1.3 1.5 3.2 1.9

2.3 3.2 1.8 3.4 2.7

34.1 24.7 19.7 1.0 41.4

33.8 17.1 18.3 1.0 45.4

50.1 12.3 26.7 1.1 33.4

49.2 13.0 25.4 1.1 42.3

50.9 28.6 15.4 1.1 48.6

87.9 196.8 109.0 4.9 304.1

93.8 113.0 174.3 4.2 411.2

137.1 120.8 136.9 4.8 181.8

176.9 269.5 184.0 5.8 282.5

159.8 147.1 85.5 5.3 248.7

TSN

[] TYSON FOODS INC -CL A

SEP

2.0

1.8

2.2

2.1

1.7

25.8

27.8

41.3

35.2

34.1

87.8

103.0

139.9

127.9

178.4

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

1.0 1.5 0.9 4.4 1.0

1.2 1.1 1.0 7.0 1.1

1.3 1.1 1.5 7.0 1.4

0.9 0.9 1.5 3.0 1.2

0.9 0.8 2.4 3.3 1.3

27.3 42.3 44.2 0.0 44.6

28.5 32.7 32.3 0.0 44.2

16.1 79.1 41.2 0.0 29.8

11.3 87.1 49.5 0.0 38.9

12.0 42.7 31.5 0.0 19.0

NM 357.5 NM 0.0 NM

457.2 737.5 NM 0.0 NM

132.1 NM 696.5 0.0 194.0

NM NM 807.8 0.0 389.2

NM NM 181.5 0.0 175.3

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

2.1 1.7 2.3

2.1 1.2 2.0

2.2 2.1 1.8

1.7 1.9 1.5

1.9 1.4 1.6

29.6 22.7 43.9

31.2 60.1 43.0

36.2 8.6 18.4

35.5 12.1 30.2

28.7 15.4 22.6

57.9 303.0 153.1

71.4 NM 195.0

74.1 36.7 85.0

71.0 48.2 150.7

65.5 109.1 125.1

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

Current Ratio Ticker

Com pany

Yr. End

2011

Debt as a % of Net Working Capital

Debt / Capital Ratio (%)

2010

2009

2008

2007

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 1.8 DOLE DOLE FOOD CO INC DEC 1.7 FDP FRESH DEL MONTE PRODUCE INC DEC 2.4 PPC PILGRIM'S PRIDE CORP DEC 2.0 UN UNILEVER NV -ADR DEC NA

2.0 1.6 2.4 2.3 0.9

1.8 1.8 2.5 2.7 1.0

1.7 1.4 1.3 0.5 0.8

1.5 1.6 2.2 1.4 0.6

39.7 62.8 10.8 72.4 NA

41.8 60.1 14.7 54.3 22.7

45.5 59.8 15.4 19.2 28.6

58.1 72.3 8.8 13.5 29.8

44.4 78.5 13.7 46.8 30.9

172.9 224.8 40.8 195.2 NA

154.8 225.0 56.5 131.8 NM

179.8 199.9 59.0 4.8 NM

238.9 338.7 77.3 NM NM

268.2 333.9 47.2 347.8 NM

OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 1.0 KOF COCA-COLA FEMSA DE C V -ADR DEC 1.3 COT COTT CORP QUE DEC 1.9 FIZZ NATIONAL BEVERAGE CORP # APR 1.9

1.5 1.5 1.6 1.4

1.4 1.0 1.5 2.3

0.7 0.8 1.1 2.7

1.2 1.1 1.2 2.3

63.3 14.4 50.5 0.0

68.0 17.5 51.7 0.0

68.5 13.2 36.6 0.0

64.8 17.4 52.9 0.0

66.5 21.2 35.6 0.0

NM 243.4 226.0 0.0

657.6 176.5 322.8 0.0

874.8 NM 205.6 0.0

NM NM NM 0.0

NM NM 423.0 0.0

1.9

1.6

22.0

17.2

27.2

26.9

28.0

54.2

43.9

64.9

59.4

60.4

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS BG BUNGE LTD DEC 1.9 1.6

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

Price / Earnings Ratio (High-Low) Ticker

Com pany

Yr. End

2011

2010

2009

2008

Dividend Payout Ratio (%) 2007

Dividend Yield (High-Low, %)

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

23 36 10 15 24 -

13 24 7 12 20

20 20 15 15 14 -

7 12 10 13 11

23 - 8 23 - 11 12 - 6 17 - 12 14 - 8

44 - 9 40 - 11 15 - 6 23 - 15 17 - 9

46 49 520 26 -

18 20 1 16 22

82 73 22 47 84

100 41 41 44 46

155 37 28 48 47

299 65 44 49 53

197 63 13 38 71

6.5 3.0 3.1 3.9 4.3 -

3.5 2.0 2.2 3.2 3.6

13.6 3.3 4.0 3.3 4.2 -

4.9 2.0 2.7 2.9 3.4

19.4 3.3 4.7 4.1 5.6 -

6.6 1.6 2.3 2.8 3.3

31.7 5.8 7.2 3.2 5.6 -

6.8 1.6 3.0 2.2 3.1

10.9 3.2 10.0 2.3 3.3 -

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

NM42 25 17 85 -

NM 11 18 14 24

39 40 18 14 65 -

15 24 15 12 36

16 25 19 16 56 -

11 12 14 10 15

24 35 25 18 48 -

9 17 16 13 25

51 43 24 16 78 -

24 28 17 14 30

NM 8 64 50 0

0 13 52 40 0

0 12 48 41 0

0 20 44 44 0

NM 23 40 41 0

0.0 0.7 3.7 3.5 0.0 -

0.0 0.2 2.5 3.0 0.0

0.0 0.5 3.4 3.4 0.0 -

0.0 0.3 2.8 2.9 0.0

0.0 1.0 3.3 4.1 0.0 -

0.0 0.5 2.6 2.7 0.0

0.0 1.1 2.8 3.4 0.0 -

0.0 0.6 1.8 2.4 0.0

62.2 - 29.7 0.8 - 0.5 2.4 - 1.7 2.9 - 2.6 0.0 - 0.0

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

30 19 22 17 19 -

20 16 17 14 14

41 16 23 18 19 -

21 13 16 13 14

NM15 22 16 20 -

NM 11 16 11 14

31 18 32 20 24 -

14 12 23 12 16

29 18 60 19 25 -

22 16 41 14 17

0 67 50 29 16

0 58 57 28 16

NM 58 62 30 17

0 56 87 35 25

0 57 121 27 20

0.0 4.1 3.0 2.1 1.1 -

0.0 3.5 2.2 1.7 0.8

0.0 4.5 3.6 2.2 1.2 -

0.0 3.5 2.5 1.6 0.9

0.0 5.5 3.9 2.6 1.3 -

0.0 3.8 2.8 1.9 0.9

0.0 4.7 3.7 3.0 1.6 -

0.0 3.1 2.7 1.7 1.0

0.0 3.6 3.0 2.0 1.2 -

0.0 3.1 2.0 1.4 0.8

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

17 NA 19 18 31 -

14 NA 14 15 22

17 NA 15 17 29 -

14 NA 11 13 20

17 NA 17 16 26 -

11 NA 10 12 13

19 NA 25 21 NA -

13 NA 16 14 NA

20 NA 22 22 NA -

17 NA 18 19 NA

49 NA 34 40 42

47 NA 29 37 41

45 NA 36 42 36

43 NA 68 44 0

43 NA 52 45 NA

3.5 NA 2.5 2.6 1.9 -

2.9 NA 1.8 2.2 1.4

3.3 NA 2.7 2.9 2.1 -

2.8 NA 1.9 2.2 1.4

4.0 NA 3.6 3.4 2.7 -

2.6 NA 2.1 2.6 1.4

3.2 NA 4.3 3.1 NA -

2.2 NA 2.7 2.1 NA

2.5 NA 3.0 2.4 NA -

2.1 NA 2.3 2.0 NA

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

DEC SEP SEP OCT # MAR

19 NA 40 NM32 -

15 NA 26 NM 19

23 NA 18 10 23 -

19 NA 14 6 15

15 - 10 NA - NA 13 - 10 12 - 7 9- 5

28 NA 13 NM16 -

20 NA 9 NM 10

23 NA 58 12 47 -

18 NA 42 8 35

58 NA 0 NM 0

81 NA 0 10 0

57 NA 0 14 0

90 NA 0 NM 0

63 NA 0 13 0

3.8 NA 0.0 1.8 0.0 -

3.1 NA 0.0 1.3 0.0

4.3 NA 0.0 1.6 0.0 -

3.6 NA 0.0 1.0 0.0

5.6 NA 0.0 2.1 0.0 -

3.9 NA 0.0 1.2 0.0

4.5 NA 0.0 2.8 0.0 -

3.2 NA 0.0 1.1 0.0

3.5 NA 0.0 1.7 0.0 -

2.8 NA 0.0 1.0 0.0

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

# APR # APR DEC DEC DEC

11 20 43 39 25 -

8 15 30 30 18

716 NM32 21 -

4 13 NM 25 14

NM15 25 30 16 -

NM18 44 50 35 -

NM 12 29 31 21

34 21 35 35 25 -

23 15 23 25 16

0 46 112 42 0

0 40 NM 34 0

NM 34 57 33 0

NM 200 112 46 0

0 40 83 34 0

0.0 3.1 3.8 1.4 0.0 -

0.0 2.3 2.6 1.1 0.0

0.0 - 0.0 3.1 - 2.5 27.6 - 16.2 1.4 - 1.1 0.0 - 0.0

0.0 4.1 3.5 1.7 0.0 -

0.0 2.2 2.3 1.1 0.0

0.0 - 0.0 16.9 - 11.1 3.9 - 2.5 1.5 - 0.9 0.0 - 0.0

0.0 2.6 3.6 1.4 0.0 -

0.0 1.9 2.4 1.0 0.0

TSN

[] TYSON FOODS INC -CL A

1.0 -

0.8

2.1 -

1.1

3.6 -

0.8

1.2 -

0.7

18 13 NA 20 18

50 22 44 0 50

34 565 41 0 48

56 20 7 0 47

61 NM NM 0 51

53 16 NA 0 41

3.1 2.2 3.6 0.0 3.5 -

2.6 1.7 2.8 0.0 2.8

3.6 - 2.7 55.1 - 32.7 3.4 - 2.2 0.0 - 0.0 3.2 - 2.8

4.4 3.1 1.3 0.0 4.1 -

2.8 1.4 0.5 0.0 2.8

3.8 3.9 0.0 0.0 3.3 -

2.3 1.0 0.0 0.0 2.1

3.0 1.2 NA 0.0 2.3 -

2.1 0.9 NA 0.0 1.8

14 - 9 22 - 8 19 - 10

20 0 12

19 0 25

20 0 127

18 0 14

13 0 14

2.6 0.0 1.8 -

1.6 0.0 1.1

2.3 0.0 3.9 -

1.6 0.0 2.2

3.6 0.0 2.9 -

1.0 0.0 0.9

1.4 0.0 1.5 -

0.9 0.0 0.8

NM 8 16 20 10

SEP

11 -

10 -

NM- NM

81 - 18

32 - 18

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

19 13 16 30 18 -

16 10 12 16 14

13 17 18 23 17 -

10 10 12 10 15

20 - 13 14 - 7 14 - 5 19 - 12 17 - 11

26 NMNM39 24 -

16 NM NM 18 15

25 18 NA 42 23 -

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

12 13 11 -

7 8 7

11 - 8 26 - 13 21 - 12

12 - 9 17 - 6 59 - 32

17 26 15 -

5 5 5

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

1.3 -

2.4 0.0 2.1 -

1.7 0.0 1.2

4.3 1.3 2.6 1.9 2.7

Price / Earnings Ratio (High-Low) Ticker

Com pany

Yr. End

2011

2010

Dividend Payout Ratio (%)

2009

2008

8 NM 19 13 13

10 - 2 9- 8 12 - 5 NM- NM 19 - 10

NM- NM NA - NA 16 - 5 NM- NM 16 - 9

NMNA 13 58 21 -

16 - 12 20 - 13 14 - 8 18 - 12

14 - 9 19 - 7 9- 1 20 - 10

63 29 NM19 -

32 12 NM 12

31 14 NM31 -

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS 5- 3 33 - 17 BG BUNGE LTD DEC 12 - 9

17 -

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 14 - 6 14 DOLE DOLE FOOD CO INC DEC 34 - 18 NMFDP FRESH DEL MONTE PRODUCE INC DEC 18 - 14 25 32 PPC PILGRIM'S PRIDE CORP DEC NM- NM 17 UN UNILEVER NV -ADR DEC NA - NA OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 25 - 16 KOF COCA-COLA FEMSA DE C V -ADR DEC 25 - 17 COT COTT CORP QUE DEC 23 - 15 FIZZ NATIONAL BEVERAGE CORP # APR 19 - 13

2007

Dividend Yield (High-Low, %)

2011

2010

2009

2008

2007

2011

NM NA 5 32 14

0 0 19 NM NA

0 NM 5 0 56

0 0 0 NM 63

NM NA 0 NM 46

NM NA 0 13 56

0.0 0.0 1.4 0.0 4.3 -

0.0 0.0 1.0 0.0 3.5

23 10 NM 14

32 50 0 0

25 26 0 261

24 15 0 190

101 22 NM 0

46 12 NM 163

2.0 2.9 0.0 0.0 -

1.3 2.0 0.0 0.0

21 - 11

1.8 -

1.3

2010

0.0 0.0 0.3 0.0 4.3 -

2009

2008

2007

0.0 0.0 0.2 0.0 3.4

0.0 0.0 0.0 0.0 6.4 -

0.0 0.0 0.0 0.0 3.3

0.0 NA 0.0 66.7 5.2 -

0.0 NA 0.0 0.3 3.0

0.0 NA 0.0 0.4 4.0 -

0.0 NA 0.0 0.2 2.7

2.2 - 1.6 2.0 - 1.3 0.0 - 0.0 21.4 - 14.9

2.6 2.1 0.0 18.8 -

1.7 0.8 0.0 9.3

3.2 1.9 0.0 0.0 -

1.6 0.8 0.0 0.0

2.0 1.2 0.0 11.4 -

1.5 0.8 0.0 5.3

2.1 -

1.1

2.6 -

0.5

0.9 -

0.5

1.9 -

1.2

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

Earnings per Share ($) Ticker

Com pany

Tangible Book Value per Share ($)

Yr. End

2011

2010

2009

2008

2007

PACKAGED FOODS & MEATS‡ BGS § B&G FOODS INC CVGW § CALAVO GROWERS INC CALM § CAL-MAINE FOODS INC CPB [] CAMPBELL SOUP CO CAG [] CONAGRA FOODS INC

DEC OCT # MAY JUL # MAY

1.05 0.75 3.76 2.44 1.13

0.68 1.22 2.55 2.44 1.92

0.44 0.94 2.85 2.08 1.68

0.27 0.54 3.34 1.80 1.43

DF DMND FLO GIS GMCR

[] § † [] †

DEAN FOODS CO DIAMOND FOODS INC FLOWERS FOODS INC GENERAL MILLS INC GREEN MTN COFFEE ROASTERS

DEC JUL DEC # MAY SEP

(8.61) 2.28 0.91 2.42 1.36

0.48 1.40 1.00 2.80 0.60

1.41 1.48 0.94 2.32 0.49

HAIN HNZ HSY HRL JJSF

§ [] [] [] §

HAIN CELESTIAL GROUP INC HEINZ (H J) CO HERSHEY CO HORMEL FOODS CORP J & J SNACK FOODS CORP

JUN # APR DEC OCT SEP

1.27 2.87 2.78 1.78 2.95

0.70 3.09 2.24 1.49 2.61

K KRFT LANC MKC MJN

[] [] † [] []

KELLOGG CO KRAFT FOODS GROUP INC LANCASTER COLONY CORP MCCORMICK & CO INC MEAD JOHNSON NUTRITION CO

DEC DEC JUN NOV DEC

3.40 3.13 3.84 2.82 2.48

MDLZ POST RAH SAFM SENEA

[] † † § §

MONDELEZ INTERNATIONAL INC POST HOLDINGS INC RALCORP HOLDINGS INC SANDERSON FARMS INC SENECA FOODS CORP

SFD SJM LNCE TR THS

† [] § † §

SMITHFIELD FOODS INC SMUCKER (JM) CO SNYDERS-LANCE INC TOOTSIE ROLL INDUSTRIES INC TREEHOUSE FOODS INC

TSN

[] TYSON FOODS INC -CL A

Share Price (High-Low, $)

2011

2010

2009

2008

2007

2011

2010

2009

2008

2007

0.54 0.51 6.41 2.13 1.06

(13.87) 4.51 18.77 (4.91) (1.88)

(7.46) 5.53 16.20 (4.47) 0.38

(7.70) 4.40 14.40 (4.94) 1.12

(12.48) 4.19 12.38 (3.61) 0.89

(11.66) 4.87 11.06 (3.15) 2.14

24.64 27.17 37.67 35.66 26.68 -

13.23 18.24 27.20 29.69 22.20

13.87 24.67 38.88 37.59 26.32 -

5.00 15.09 26.23 32.18 21.02

10.23 22.08 35.27 35.80 23.67 -

3.51 10.50 17.01 24.63 14.00

11.80 - 2.54 21.74 - 6.00 48.80 - 20.75 40.85 - 27.35 24.87 - 13.52

25.00 - 9.72 25.15 - 10.05 31.45 - 8.30 42.65 - 34.17 27.73 - 22.81

1.24 0.92 0.87 1.97 0.21

1.00 0.53 0.69 1.93 0.12

(10.50) (18.31) 2.93 (9.97) 3.84

(13.04) (21.28) 3.67 (6.51) 0.70

(14.65) (0.04) 3.00 (7.47) 3.47

(20.09) 8.49 2.36 (7.98) 0.33

(26.88) 7.37 4.05 (6.44) (0.08)

13.90 96.13 23.13 40.80 115.98 -

7.83 26.11 15.95 34.54 32.73

18.79 55.97 18.39 38.98 38.86 -

7.13 33.28 15.31 33.11 21.83

22.09 36.39 17.60 36.04 27.65 -

15.74 18.39 13.60 23.18 7.12

29.23 32.14 21.79 36.01 9.94 -

11.20 15.83 13.82 25.50 5.11

50.50 22.68 16.70 30.76 9.55 -

24.11 15.00 11.70 27.08 3.64

(0.61) 2.89 1.91 1.27 2.23

1.03 2.94 1.37 1.05 1.49

1.21 2.67 0.94 1.10 1.72

1.77 (6.01) 0.98 7.17 16.57

1.20 (5.57) 1.12 6.13 13.80

2.35 (6.85) 0.10 5.10 12.60

1.39 (8.78) (1.53) 4.60 10.82

2.28 (8.10) (0.65) 4.15 9.46

38.47 55.00 62.26 30.50 55.58 -

25.59 46.99 46.24 24.52 41.91

28.49 50.77 52.10 26.14 50.25 -

14.45 40.00 35.76 18.89 36.80

20.31 43.75 42.25 20.23 44.75 -

11.18 30.51 30.27 14.58 30.12

32.34 53.00 44.32 21.39 36.38 -

14.09 35.26 32.10 12.40 23.38

35.14 48.75 56.75 20.91 43.51 -

26.09 41.82 38.21 15.02 29.01

3.32 3.21 4.08 2.79 2.20

3.17 NA 3.18 2.29 1.96

3.01 NA 1.64 1.98 1.97

2.79 NA 2.05 1.78 2.11

(9.28) NA 15.31 (3.33) (1.91)

(8.00) NA 13.69 (1.47) (2.76)

(7.42) NA 10.75 (2.90) (4.12)

(9.56) NA 9.05 (4.23) (7.62)

(6.25) NA 11.11 (0.01) NA

57.70 NA 72.04 51.26 76.91 -

48.10 NA 51.96 43.36 55.12

56.00 NA 61.60 47.83 63.38 -

47.28 NA 43.28 35.40 43.50

54.10 NA 53.41 36.80 50.35 -

35.64 NA 31.90 28.08 25.72

58.51 - 40.32 NA NA 41.62 - 26.01 42.06 - 28.21 NA NA

56.89 - 48.68 NA NA 45.96 - 35.89 39.73 - 33.89 NA NA

DEC 2.00 SEP (10.47) SEP 2.30 OCT (5.74) # MAR 0.93

1.44 2.67 3.79 6.07 1.45

2.04 NA 5.16 4.05 3.98

1.24 NA 5.51 (2.13) 1.54

1.64 NA 1.20 3.91 0.66

(15.42) NA 11.53 22.80 29.81

(16.01) NA (33.56) 29.25 29.61

(11.04) NA (15.06) 21.18 28.37

(12.46) NA (21.90) 17.45 28.10

(10.50) NA (13.83) 19.99 27.66

37.93 NA 91.35 53.22 29.98 -

30.21 NA 59.23 38.07 18.13

32.67 NA 69.86 59.43 33.54 -

27.09 NA 53.90 38.61 21.86

29.84 NA 64.90 49.39 34.40 -

20.81 NA 52.01 26.62 18.85

34.97 NA 74.07 50.45 24.47 -

24.75 NA 48.08 20.24 14.63

37.20 NA 69.59 47.93 30.92 -

29.95 NA 50.53 29.56 23.40

# APR # APR DEC DEC DEC

2.23 4.06 0.57 0.74 2.64

3.14 4.06 0.07 0.89 2.59

(0.65) 4.15 1.13 0.87 2.54

(1.72) 3.14 0.57 0.62 0.91

1.04 3.03 0.77 0.81 1.33

14.21 (9.78) 1.36 7.06 (12.05)

14.24 (4.03) 0.73 7.02 (15.86)

9.30 (4.26) 4.63 6.65 0.90

9.40 (8.03) 4.17 6.02 (3.22)

13.30 0.98 5.70 5.98 (5.01)

25.12 80.26 24.26 29.05 67.25 -

17.79 61.16 17.06 22.16 46.73

21.48 66.28 27.11 28.26 53.30 -

13.34 53.27 15.91 21.87 36.84

17.62 62.69 28.26 25.70 40.38 -

5.55 34.09 18.36 17.35 24.28

32.18 56.69 25.18 31.10 31.61 -

5.40 37.22 16.39 19.06 19.24

35.79 64.32 27.04 27.97 32.59 -

24.40 46.57 17.67 20.24 21.15

SEP

2.00

2.09

(1.44)

0.24

0.77

9.77

8.24

5.98

6.30

5.96

21.06 -

15.60

20.57 - 12.15

14.25 -

7.51

19.50 -

4.40

SOFT DRINKS‡ KO [] COCA-COLA CO CCE [] COCA-COLA ENTERPRISES INC DPS [] DR PEPPER SNAPPLE GROUP INC MNST [] MONSTER BEVERAGE CORP PEP [] PEPSICO INC

DEC DEC DEC DEC DEC

1.88 2.35 2.77 1.62 4.08

2.56 1.84 2.19 1.20 3.97

1.48 1.49 2.18 1.16 3.81

1.25 (9.05) (1.23) 0.58 3.26

1.29 1.48 1.96 0.82 3.48

0.88 (3.27) (16.00) 5.34 (8.02)

0.89 (2.45) (14.36) 4.41 (4.55)

2.60 (7.39) (9.83) 3.13 4.95

1.72 (8.81) (12.17) 2.26 3.36

2.05 (14.50) NA 2.14 6.30

35.88 29.99 43.13 49.18 71.89 -

30.65 23.03 33.68 25.83 58.50

32.94 31.80 40.24 27.38 68.11 -

29.73 21.53 30.65 22.01 64.48 -

18.72 9.70 11.83 13.95 43.78

32.79 26.99 30.00 22.82 79.79 -

20.15 7.25 13.45 10.26 49.74

AGRICULTURAL PRODUCTS‡ ADM [] ARCHER-DANIELS-MIDLAND CO DAR § DARLING INTERNATIONAL INC INGR † INGREDION INC

JUN DEC DEC

3.17 1.47 5.44

3.00 0.53 2.24

2.66 0.51 0.55

2.80 0.67 3.59

3.32 0.56 2.65

27.31 1.50 15.75

22.45 (3.27) 12.85

20.63 2.01 19.30

20.57 1.71 13.84

17.14 1.23 16.10

38.02 19.62 59.50 -

23.69 11.24 36.65

34.03 - 24.22 13.77 - 7.00 48.00 - 26.23

INDUSTRY SURVEYS

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

24.74 18.84 26.38 12.01 58.75

33.00 - 23.13 8.48 - 2.82 32.37 - 17.80

48.95 - 13.53 17.52 - 3.27 54.96 - 17.51

24.32 - 13.50

32.16 27.09 NA 34.20 79.00 -

22.78 19.78 NA 16.25 61.89

47.33 - 30.20 12.10 - 4.45 49.30 - 25.48

Earnings per Share ($) Ticker

Com pany

Yr. End

2011

2010

OTHER COMPANIES WITH SIGNIFICANT PACKAGED FOOD OPERATIONS CQB CHIQUITA BRANDS INTL INC DEC 1.25 1.34 DOLE DOLE FOOD CO INC DEC 0.44 (0.43) FDP FRESH DEL MONTE PRODUCE INC DEC 1.57 1.03 PPC PILGRIM'S PRIDE CORP DEC (2.32) 0.41 UN UNILEVER NV -ADR DEC NA 2.00 OTHER COMPANIES WITH SIGNIFICANT SOFT DRINK OPERATIONS COKE COCA-COLA BTLNG CONS DEC 3.11 KOF COCA-COLA FEMSA DE C V -ADR DEC 4.08 COT COTT CORP QUE DEC 0.40 FIZZ NATIONAL BEVERAGE CORP # APR 0.95

3.93 4.29 0.64 0.88

2009

Tangible Book Value per Share ($)

Share Price (High-Low, $)

2008

2007

2011

2010

2009

2008

2007

2.05 (7.43) 1.38 NA 2.26 2.49 (2.06) (14.31) 1.73 2.38

(1.22) NA 3.07 0.71 1.78

1.50 (4.01) 20.99 2.39 NA

(0.01) (3.57) 19.15 4.78 4.87

(2.01) (3.11) 18.63 1.22 1.99

(7.02) NA 15.89 3.84 0.75

(5.78) NA 16.45 10.02 (3.33)

17.36 14.99 28.60 8.61 35.17 -

2.18 3.43 (0.99) 0.49

(53.85) 9.66 1.17 2.31

(54.40) 8.69 0.53 1.42

(55.85) 6.23 2.74 2.74

(60.41) 3.31 0.68 3.37

(55.52) 3.18 1.37 2.82

6.11

68.02

70.99

54.77

44.82

48.66

4.16 3.54 1.10 0.71

0.99 2.19 (1.73) 0.54

OTHER COMPANIES WITH SIGNIFICANT AGRICULTURAL PRODUCTS OPERATIONS BG BUNGE LTD DEC 6.20 16.20 2.24 8.11

2011

2010

2009

2008

2007

7.53 8.02 21.26 2.90 28.89

18.60 - 11.10 13.93 - 8.57 25.24 - 19.15 13.05 - 5.35 33.10 - 26.02

19.59 - 4.32 12.87 - 11.28 26.66 - 12.23 10.49 - 0.46 33.02 - 16.91

25.77 - 8.42 NA NA 39.75 - 12.94 28.83 - 0.14 37.18 - 21.27

21.23 NA 38.62 41.00 37.31 -

76.32 102.59 9.08 17.76 -

50.26 71.35 5.94 12.30

61.00 - 45.51 84.60 - 56.51 9.08 - 5.41 15.45 - 10.75

58.18 - 37.75 67.55 - 25.96 9.39 - 0.65 14.50 - 7.17

62.20 - 31.41 63.77 - 26.15 7.48 - 0.59 10.10 - 6.60

68.65 - 49.78 49.37 - 33.52 17.33 - 5.40 15.02 - 7.00

76.13 -

54.03

74.04 - 45.36

72.98 - 38.75

135.00 - 27.60

125.53 - 69.91

12.48 NA 14.40 22.52 24.94

The analysis and opinion set forth in this publication are provided by Standard & Poor’s Equity Research Services and are prepared separately from any other analytic activity of Standard & Poor’s. In this regard, Standard & Poor’s Equity Research Services has no access to nonpublic information received by other units of Standard & Poor’s. The accuracy and completeness of information obtained from third-party sources, and the opinions based on such information, are not guaranteed.

FOODS & NONALCOHOLIC BEVERAGES / DECEMBER 2012

INDUSTRY SURVEYS

OpEx

A TBM Consulting Group Publication

Review

October 2012 | Issue 4

Food & Beverage: Profitable Growth Possible Despite Disastrous Droughts By Keith Yeater, Vice President/Food & Beverage, TBM Consulting Group

An Operational Excellence strategy can keep cash flowing and prevent shriveling profits.

Manufacturers have learned to live as survivalists in the global economy, and among their kind, food and beverage (F&B) producers dwell in the most treacherous of habitats: slim profit margins, excruciatingly complex regulation and risk management, and rawmaterials variability tied to a delicate balance frequently upended by Mother Nature. These pressures make an Operational Excellence strategy a competitive necessity in any year, but in the past six months, drought

1 2

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conditions have intensified the need for F&B companies to focus on operational efficiency and effectiveness. Record heat and dryness in the United States and South America have caused drastic price jumps for corn, soybeans and sugar—omnipresent raw materials of F&B supply chains. Everything from soda

pop to salami is—or soon will be—affected. In September, Bloomberg published analyst predictions that United Nations-tracked food prices will climb 15 percent by June of 2013.1 This follows an increase of 6 percent over this past summer.2 (continued on page 4)

Also in this issue: 2| Leadership: Recruiting Requires Innovation 2| Economic Outlook: Key Priorities for 2013 8| Case Study: IT Team Corrects SOX Failures 10| Med/Pharma: Drive Problem-Prevention in Design Phase

“Rabobank Sees Record Food Prices as Grain Costs Spur Meat Exits,” By Whitney McFerron, Sept. 19, 2012, www.bloomberg.com/news “World Food Prices Surge,” By Neena Rai, Aug. 9, 2012, blogs.wsj.com

Food & Beverage: Profitable Growth Possible Despite Disastrous Droughts continued from page 1

Consumers will tolerate only so much of a price jump before abandoning their favorite brands, so F&B companies have limited ability to raise retail prices. These companies can continue to control costs while creating consumer and shareholder value by using an Operational Excellence strategy that focuses on cost containment, maximizing return on assets (ROA), and ensuring quality and safety performance.

Specifically, direct material cost savings can come from:

Cost Containment: Better Management of Material, Equipment

In one example, a $4 billion, multi-site producer of branded frozen foods achieved $1.4 million in annualized savings, and reduced giveaway and scrap by 20 percent by using Six Sigma techniques to:

Direct material accounts for 50 percent to 70 percent of cost at a typical F&B company. Improving basic operational functions can reduce direct-material costs three percent to five percent, even with escalating raw material prices. For example, one of the biggest waste challenges F&B companies deal with is shelf life. Many need to be able to receive raw ingredients, process quickly into finished goods, and then move merchandise to retail shelves. This ties directly into inventory practices and equipment reliability. Additionally, root-cause analysis can uncover opportunities to make small changes to processes and products that are neutral to quality but will save significant direct material cost on a volume basis (i.e., adjusting ingredients or avoiding spillover).

Typical Industry Cost Structure

• Minimizing raw material loss or damage. • Reducing product giveaway (exceeding promised quantity or volume). • Improving yield conversion. • Reducing disposal waste and energy waste.

• Identify the root causes of product variation. • Implement productive maintenance to ensure that equipment caused minimal product variation. • Improve scheduling efficiency to reduce changeover waste and increase machine uptime. These three improvement projects increased shareholder and customer value by improving yield through waste reduction, while lowering cost through more efficient use of assets.

Cost Savings and Scrap Reduction A multi-site producer of branded frozen foods used Six Sigma techniques to cut $1.4 million in costs annually and reduce wasted product by 20 percent. Key to these improvements were: • I dentifying why product variation was happening.

Direct Material 50 – 70% The Challenge:

Overhead 20 – 30%

Direct Labor 5 – 15%

DM cost by 3 – 5% every year

4 | OpEx Review | October 2012 | www.tbmcg.com

• I mplementing productive maintenance and standard work. • I mproving scheduling efficiency to reduce changeover waste and increase machine uptime.

Food & Beverage: Profitable Growth Possible Despite Disastrous Droughts, continued

Return on Assets: Improvement Instead of Expenditure Highly efficient use of assets is critical for F&B producers that want to maintain profitability and/or expand sales. Using Total Productive Maintenance (TPM) improves reliability by incorporating machine audits into the standard work of the operator; consequently reducing unexpected disruptions and aligning recurring maintenance tasks with pre-planned process interruptions, such as changeovers. At one TBM client that is a global producer of food packaging, instituting TPM increased productivity by 40 percent, and overall equipment effectiveness (OEE) now consistently hits a world-class 85 percent. Many variables influence OEE, so bottom-line results vary; but generally, any improvement to OEE at an F&B operation will translate into more efficient use of assets and labor. At this plant, a single percentage point improvement in OEE saved roughly $10,000 to $12,000 per month; and, the company was able to meet growing customer demand without investing in additional capital. Also contributing to the efficiency gains at this plant was a simplification of product flow. Streamlining flow can be particularly beneficial to F&B manufacturers processing perishable goods. The resulting process flexibility enables

faster response when materials become available; and hence, better quality for the consumer, less waste due to spoilage, and maximized use of labor and machinery.

Quality and Safety: The Dynamic Duo F&B manufacturers must invest heavily in product quality and safety. Consider it a cost of entry into the game. Therefore, efficiency improvements in these areas can return substantial benefits to the top line (sales growth) and bottom line (effective but cost-aware risk protection). (continued on page 6)

Overall Equipment Effectiveness: A Powerful Measure OEE is a proven balanced scorecard that promotes having equipment ready to run when planned (availability) at the designed rate and manning (productivity) and at the required quality level. As you maximize OEE, your returns are significant.

OpEx Review | October 2012 | www.tbmcg.com | 5

Food & Beverage: Profitable Growth Possible Despite Disastrous Droughts, continued

One client, a large multi-national food processor, improved consistency in its end product, which reduced the need for reprocessing by 44 percent. Prior to this, the rejected higher-margin product was being reprocessed into lowermargin product. So, not only was inconsistency causing rework, it was also directly cutting into profits. (The dilemma was particularly challenging because the raw material used to make the end product was inherently prone to producing inconsistent results.) The solution came through root-cause analysis to understand the sources of variation and use of Design of Experiments to find the optimal equipment settings to ensure product consistency. Also, the company implemented Total Productive Maintenance to replace points of wear on equipment before they could cause quality issues. In another case, competition from producers in lowercost regions prompted a food-additive manufacturer to ask for TBM’s help to identify cost-saving opportunities. Through analysis, the team found that significant losses in changeover and sanitation were contributing to lost capacity and increased operating costs. These activities lacked consistent control; but once the team learned to schedule more efficiently, create and use standard work, and apply a daily management system to sustain results, the company saved $3.1 million by speeding up set-up and sanitation by 49 percent. Food safety improved as well.

6 | OpEx Review | October 2012 | www.tbmcg.com

For this F&B producer and others, Operational Excellence won’t stop droughts, floods and temperature extremes; but it will improve control on internal processes that most directly influence material cost, asset utilization, and quality and safety. Just because extreme weather has shriveled this year’s global harvest of foundational crops, F&B producers don’t have to watch their profits dry up as well. n

Keith Yeater is an expert in business transformation, and has a proven track record for leading positive change in organizations.Keith works with senior executives at client companies, helping them to successfully execute their strategic objectives through the use of strategy deployment and ensures that their continuous improvement initiatives are clearly aligned to strategic initiatives and key performance measures.

FOOD SAFETY

A C ATA LYST FOR FOOD A N D AGR I BUSI N E SS M& A ? It seems hardly a day (and in certain cases, a minute or two) goes by without reading or hearing about a food scare, scandal, or recall. Food safety awareness has been elevated markedly in recent years, as more and more emphasis is being placed on protecting the consumer from food contamination by ensuring prevention and response protocols are in place to address the myriad safety issues that challenge the industry. The Food Safety and Modernization Act (“FSMA”) has been central to the U.S. conversation on food safety, and with it comes what the FDA has described as “the most sweeping reform to our food safety laws in 70 years.” Although rather fluid and broad-reaching, the new legislation endeavors to shift the posture of the industry’s somewhat voluntary practices to mandated food safety programs that emphasize preventative controls and upstream supplier traceability and accountability as well as a significant expansion of the FDA’s authority to enforce the response/compliance provisions of the law (among others). This major expansion of regulation, coupled with other key regulatory

developments, such as the controversial and recently expanded scope of Country of Origin Labeling rules, together raise the bar for operators from a compliance and cost perspective. This dramatic shift has not only raised the profile of food safety in the U.S., but also in other world economies like Canada, China, and India. Pressure on the Chinese food production system and the recent spate of major China-based food safety scandals, ranging from contaminated pet food, to infant formula tainted with melamine, to adulterated lamb meat, have not helped matters. As the global food value chain has become increasingly larger, more interconnected, and complex, the importance of a more cohesive global standard of food safety has become ever more apparent for food companies. However, these standards do not come without significant cost and non-financial hurdles that must be addressed by operators in the food and agribusiness industry as they manage their risk and remain competitive in the markets they serve.

FOOD SA F ET Y – A M AJOR E L E M E N T T O C RO S S - B OR DE R M EGA-DE A L Further evidencing the importance and global scope of food safety is the recent announcement by Smithfield Foods (“Smithfield”) agreeing to be acquired for (est.) $7 billion by Shuanghui International Holdings (“Shuanghui” or the “Company”), a Chinese investment firm that controls Shuanghui Investment & Development Co., the largest pork producer and processor in China. Shuanghui operates out of 20 processing facilities and produces more than 2.7 million tons of meat per year. The Company slaughters 11.4 million hogs per year, but only raises approximately 310,000. Smithfield, the world’s largest producer and processor of pork products, is vertically integrated and raises 15.8 million hogs, or more than 50% of the 27 million it slaughters each year, a large portion of which are exported to China. Shuanghui is now seeking to complete the largest Chinese acquisition ever of a U.S. company on the back of imports, food safety, and improving its reputation in the market, among other key factors.

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There has been a lot of dialogue and debate among consumer advocacy groups, industry pundits, and Congress, as well as management of Smithfield and Shuanghui surrounding the pending Smithfield transaction, which is not surprising given the size, and importantly, the scope of the deal. Opposition groups have cited concerns ranging from Chinese pork making it onto American dining tables, to broader national security issues related to relinquishing control over the U.S. food supply and exposing the U.S. to Chinese food safety practices (or the lack thereof, as the case may be). The reality is, the pork trade flows U.S. to China, the USDA will continue to monitor and regulate Smithfield, publicly traded or not, and calling “protection of the food supply” a national security issue seems to stretch the traditional definition by historical standards. That said, the outcries do seem to have the public’s ear on food safety and security issues, intimating it’s at least reasonable to consider how such a

FOOD SAFETY – A CATALYST FOR FOOD AND AGRIBUSINESS M&A? | 1

dominant player, like Shuanghui, may leverage the combined intellectual property and global presence it stands to gain from a transaction of this magnitude over the long term.

merits of the deal in addition to a number of other key benefits for the parties involved. Shuanghui stands to benefit from Smithfield’s technology, know-how and best practices related to genetics and breeding, bio-security, processing expertise, and broader food safety management practices. In addition, Smithfield’s valuable family of brands should resonate well with the growing Chinese middle class—a population that’s working more, earning more, consuming more protein, and demanding stricter food safety standards. Many believe the Smithfield deal is good for American farmers. Pork consumption in the U.S. has been in decline for the past (est.) five years, while the export market for pork has exploded. According to the USDA, pork consumption in China is more than six times greater than that of the U.S. and growing significantly on the heels of rising middle class income.

Shuanghui has had its own set of food safety and public image problems that date back to 2011, when it was reported the Company purchased hogs fed with toxic, restricted feed additives. Since 2011, Shuanghui has found itself embroiled in at least three other high profile incidents, including one as recent as May 2013, the month the deal was announced. It’s this abysmal food safety track record that has caused the American public to question whether a marriage between Smithfield and Shuanghui is really in the best interest of the American consumer and U.S. food supply. However, it is not the American consumer that gets to make that call unless they own shares in Smithfield or sit on the Board of Directors. Shuanghui and Smithfield insist the merits of the transaction are predicated on pointed strategic and financial considerations, directing the public to synergies, such as Smithfield’s widening the door to the growing Chinese export market and the lucrative Chinese retail channel to meet increasing demand for chilled, processed meats. It is no wonder Smithfield has taken the lead on making its processing plants free of ractopamine, a controversial feed additive used to promote animal leanness, banned by the EU, Russia, and ironically, China. Such measures strongly support the strategic

Control of Smithfield enables the Chinese to further expand its pork supply chain to meet increasing domestic and global demand with high quality imported meat. U.S. farmers and livestock producers also stand to benefit from this trend over the long term. Furthermore, one could argue the purchase of Smithfield will, in a sense, enable the U.S. to “export regulation” to China through the transfer of its own best practices and food safety standards, raising the bar for everyone.

U S P O R K E X P O RT S , A N N UA L C A RC A S S W E I G H T, M I L L I O N S O F P O U N D S 5,250 4, 50 0 3 , 75 0 3,000

2,250 1, 5 0 0

12 20

10 20

08 20

04 20

02 20

00 20

86 19

84 19

82 19

80 19

78 19

75 0

SOURCE – BUREAU OF CENSUS, DEPT. OF COMMERCE

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FOOD SAFETY – A CATALYST FOR FOOD AND AGRIBUSINESS M&A? | 2

The public should not forget the takeover represents a substantial economic win for Smithfield shareholders. Smithfield has historically underperformed some of its largest competitors and been subject to ongoing scrutiny by certain institutional shareholders to increase the value of the stock. Shuanghui is paying 9.2x LTM EBITDA for Smithfield (versus an average of 7.9x for the comparable universe), or a 31% equity premium.

Importantly, Smithfield executive leadership has long shared the belief that a vertically integrated business model provides distinct competitive advantages; namely, control from “barn door to scanner,” resulting in higher quality, consistent products. According to the terms of the deal, which is subject to a national security review by the Committee on Foreign Investment in the U.S. (“CFIUS”), Smithfield will operate “business as usual” in a relative autonomous fashion, giving existing management continued discretion over the U.S. business.

T WO Y E A R R E L AT I V E S TO C K P R I C E S : H O R M E L , T YS O N , S M I T H F I E L D 16 0 15 0

RELATIVE STOCK PRICE (%)

14 0 13 0 120 110 10 0 90 80 70

3 AY M

-1

13 M

-1

08 VO N

TYSON FOODS

-1

-1 07 PSE

LJU

2 10

-0

09 RA M

HORMEL FOODS

-1

2 -1

12 9-0 N JA

O N

P-

V-

-1 1

11 11 LJU

-1 1

SMITHFIELD FOODS SOURCE – S&P CAPITAL IQ

T HE BOT TOM L I N E More interesting than deliberating which factors influenced Shuanghui’s key decision-makers the most in its bid for Smithfield, is recognizing that—in addition to more imported containers of pork—the importance of global food safety coupled with increasing emphasis on worldwide regulation

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served as critical elements to one of the highest profile cross-border transactions in history. While no one is suggesting food safety, or regulation for that matter, on their own will be primary drivers of M&A activity in the future, the Smithfield deal evidences the importance of each having

FOOD SAFETY – A CATALYST FOR FOOD AND AGRIBUSINESS M&A? | 3

a meaningful role in shaping the strategic direction of the industry. Assuming the deal does get approved by CFIUS (and in all likelihood that will be the case), it’s possible the floodgates will open and more Chinese direct investment in the U.S. food and agribusiness industry will prove to be a

tested means of acquiring know-how, food safety best practices, and of course, supply to meet the growing needs of the over-strained Chinese food economy.

A B OU T T H E AU T HOR PAUL A. MARIANI is a Director with Variant Capital Advisors LLC (“Variant Capital”), an investment bank that provides mergers and acquisitions advisory, capital raising, and financial restructuring services to middle market companies. Paul has more than 12 years of experience providing investment banking services to public and private companies. He has extensive experience advising companies operating throughout the food value chain, including agribusiness companies, branded and private label packaged food

companies, food equipment companies, food distributors and wholesalers, and retail grocery chains. Mr. Mariani received his MBA degree from the John M. Olin School of Business at Washington University in St. Louis and he earned his undergraduate degree at the University of Michigan. He is a member of the Association for Corporate Growth, the Turnaround Management Association, and the American Bankruptcy Institute. Paul is a FINRA Series 63 and 79 registered representative. PMariani@Variant-Capital.com | 312.220.0135

Variant Capital Advisors specializes in providing investment banking services for middle market companies. As a trusted financial advisor,Variant Capital provides creative solutions for its clients encompassing a broad range of services, including: u

Mergers & Acquisitions

Capital Raising

Financial Restructurings with Existing or New Capital

General Corporate Finance Advisory

Recapitalizations

Valuations

C H I C AG O CLEVELAND D E T RO I T

77 West Wacker Drive Suite 4000 | Chicago, IL 60601 312 . 2 2 0 . 0135 www.Variant-Capital.com

Securities transactions for Variant Capital conducted through our wholly owned subsidiary, Eight Pines Securities LLC, member FINRA/SIPC.

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FOOD SAFETY – A CATALYST FOR FOOD AND AGRIBUSINESS M&A? | 4