by Greg Thain
The trend to eating out was hurting Kraft across the board. The company responded in two ways. In the mid-1980s, it invested heavily in buying up dozens of food distribution companies, becoming the second-largest foodservice company in the United States. It also realised that it needed entry into the one dynamic grocery food category of that time, frozen foods. So, it acquired Tombstone Pizza in 1986, the number-one premium frozen brand in 22 Midwest and West states. Kraft immediately expanded geographically and to speed up new product introductions, such as microwave pizza in 1987. The same year the company spent nearly $300 million for the Budget Gourmet line of frozen entrées: although that would be sold on to Heinz seven years later.
Meanwhile, the core Kraft management culture was getting a long-overdue shake up. There is no doubt that once the five Kraft brothers had retired, the company had lost verve and become staid, risk-averse and inward looking. New president Michael Miles, an ex-Leo Burnett adman who had been recruited from running Kentucky Fried Chicken, was determined to shake things up and bring back some of the company’s earlier strengths. The cosy, promote-from-within culture went out of the window. Senior executives were poached from Proctor & Gamble and other top companies, while MBAs were brought in at junior levels. These changes coincided with a belated recognition that the Dart merger had brought no good to Kraft. In 1986, the company was split up. Kraft kept Duracell while the rest was parcelled off as Premark International. So departed the Tupperware unit that had been nothing but trouble for Kraft. The next year Kraft changed its mind about Duracell and sold that off to venture capitalists for $1.8 billion.
Kraft was back to being a food company once again. It would have little enough time as master of its own destiny, because of big changes taking place in the tobacco industry. This is where the Kraft story takes something of a different turn vis a via other companies in this book. Kraft didn’t build the modern business: Philip Morris did.
How International Is It?
A business as complex as Kraft Foods consists of hundreds of acquired brands. It is impossible to chart its full international development, so we shall concentrate on the initial international spread of the Kraft brand name and then jump to its post-Nabisco acquisition status.
Kraft’s first move outside of the US came as early as 1920. This was in the Kraft brothers’ native Canada. They purchased MacLaren’s Imperial Cheese Co., which had a factory in downtown Montreal. Canada gave easier access to the British market, which Kraft exploited four years later by opening a sales office in London. Kraft entered the British food market just as it was beginning to develop chain grocery stores. This meant the British population grew up with the Kraft brand, which would join the very select group of US companies, such as Heinz, Kellogg and Ford that were not really seen as being American at all.
Britain also gave ready access to the other main markets of the British Empire including Australia, where its brands came to the attention of the country’s largest cheese and butter dealer, Fred Walker. In 1922, Fred had developed what would become Australia’s most famous indigenous brand, Vegemite. So he had a strong hand to play when he went to America in 1926 specifically to negotiate Australian exclusivity to import Kraft products. JL, no mean negotiator himself, talked Fred into a joint venture, which resulted in the creation of the Kraft-Walker Cheese Company. Australia became another country where the Kraft name would be familiar and feel local to generations of consumers.
Kraft’s next overseas venture would not fare so well (Velveeta Cheese was launched in Germany in 1937), but in 1950 another Kraft name became a firm favourite of the British. The then revolutionary Kraft Dairylea was launched on a Britain in the midst of post-war austerity and food rationing. Kraft was happy to develop the British and Australian subsidiaries and let them develop their own export trade. It was not aggressive in expanding its overseas markets and did not develop a significant presence on the European mainland until the 1984 acquisition of the Osella cheese business in Italy. By this time overseas sales amounted to around $1.7 billion, dominated by the original three markets of Canada, Britain and Australia.
At the time of the acquisition by Philip Morris, Kraft and General Foods had somewhat similar international profiles.
Outside of North America, General Foods’ trade was mostly accounted for by Maxwell House, which was Britain’s leading brand of instant coffee. However, when the two companies’ sales were combined, Kraft General Foods had the highest dollar overseas sales of any American food company. The acquisitions of the coffee and chocolate combine Jacobs Suchard in 1990 and the chocolate firms Wedel in 1991 and Freia Marabou in 1993 substantially increased the company’s profile in Continental Europe and South America. There, Suchard’s Milka brand was particularly strong.
By 2001, after the Nabisco acquisition, overseas business was accounting for around 25% of total sales. This level had not changed for Kraft since the 1970s. Europe represented about three-quarters of that total, with Latin America and Asia still under-developed when compared to other major food companies. By this point the company had operations in 68 countries. This meant, when combined with export markets, that Philadelphia was sold in 94 countries, making it the world’s largest brand of cream cheese. Milka was just behind at 91 countries, followed by Maxwell House at 78 and Ritz Crackers at 49.
Emerging markets were an issue. In 2003, they only accounted for 11% of Kraft’s sales despite its 30% share of global packaged foods. Nevertheless, Kraft had begun making baby steps. Philadelphia was launched in Brazil and within six months became the best-selling cream cheese on the market. Also in 2003 its Russian business, anchored by the recently purchased German confectionery firm Stollwerck, grew volume by 14%. However, Kraft could not afford to stand on the emerging markets touchline for much longer.
How Did It Build Its Modern Business?
Philip Morris, for its entire history mostly a cigarette maker, began to diversify in the 1970s along with other tobacco companies. It acquired Miller Brewing and Seven-Up, although neither did particularly well under its ownership. They went searching for better acquisitions, and in 1985, packaged goods food companies fell into the crosshairs of the tobacco giants. R. J. Reynolds acquired Nabisco Brands for $4.9 billion and Philip Morris quickly followed suit by acquiring the sluggish General Foods (the company Post Cereals had developed into) for $5.75 billion.
General Foods was by then a $9 billion turnover company that had acquired along the way brands such as Crystal Light, Jell-O, Kool-Aid, Birds Eye, Oscar Meyer and Maxwell House; in addition to Post Cereals and a large business in frozen vegetables. Philip Morris initially left General Foods to run as before but became increasingly unhappy with its sluggish performance, particularly in coffee and cereals. The company was number three in both categories and losing share. Almost from day one, Philip Morris had been on the lookout for another food company acquisition and Kraft’s sale of the unwanted parts of Dart, and then Duracell, suddenly made it a prime candidate. As there was very little overlap between Kraft’s and General Food’s portfolios, there was unlikely to be any anti-trust issues. So in October 1988 it was announced that Philip Morris would acquire Kraft for $13.1 billion. It became the second-largest acquisition in US business history, behind that of Gulf Oil by Chevron. Such was the annual cash surplus generated from the cigarette business that Philip Morris estimated it would pay off the $10 billion of financing debt within five years.
Philip Morris now had a food business with combined sales of over $15 billion; the question was – what to do with it? Owing to the differences in product categories, there were unlikely to be any production efficiencies of note. In addition, while bigger is always better when dealing with retailers, at that time both companies were big enough to be able to negotiate effectively. However, Philip Morris was well aware it was getting not just a roster of big brands and a decent-sized international business but also a better calibre of management in Kraft than it had inherited with General Foods. How best to transplant that ex
pertise? After a year of running the businesses completely independently, the decision was made in 1989 to combine the two companies into one. It was called Kraft General Foods. The initial level of integration was quite light, primarily merging the International and Canadian divisions. The combined company would operate as seven distinct operating units, separated along geographic lines with the US units separated mostly by route to market:
Philip Morris managed the whole thing relatively hands-off. It conducted quarterly performance reviews and bi-annual strategy planning sessions while imposing the (lower) Philip Morris capital expenditure approval limits. In its first year, the focus of Kraft General Foods was to make its numbers head off any more attention from Head Office. It succeeded, by generating over $2 billion in operating income off $23 billion in sales. Although the General Foods USA unit was larger than Kraft USA, it was only half as profitable. This contributed to the decision to give virtually all the top jobs to Kraft people.
The next year a nod was given in the direction of integration by appointing Vice Presidents for Marketing, Sales, Technology and Operations. Nevertheless, the business units still ran mostly autonomously. It was only after five years of largely lacklustre performance by the various US units that Philip Morris bit the bullet and announced a full integration in January 1995, shortly after the announcement that the Foodservice unit was up for sale. Philip Morris had not been happy with the performance of its two acquisitions (which had been added to in Europe by the acquisition of Jacobs Suchard in 1990) and now saw that full integration under the Kraft Foods banner was the best way forward. The merged company would have the largest direct sales force in the US and would be better able to execute cross-category innovations such as Jell-O Yoghurt.
The combined businesses had performed sluggishly in the early to mid-1990s, simply because they were not coming up with many blockbuster new products. Things had started brightly with the 1989 launch of Kraft’s Fat Free Miracle Whip and pourable salad dressings and Oscar Mayer’s award-winning Lunchables. There was not much following on behind. So the company focused more on acquisitions: bringing in Capri Sun in 1991, Jack’s Frozen Pizza Inc. in ’92 and Callard & Bowser in ’93, along with Nabisco’s cold cereal business. The same year the company also sold its ice cream and Birds Eye frozen vegetables businesses.
It would be 1996 before the company had its next big hit. They launched DiGiorno Rising Crust Pizza onto a national market. A genuine breakthrough. James L. Kraft would have been proud of its ‘It’s Not Delivery. It’s DiGiorno’ tagline. This was the exception to the rule. Innovations such as Post Cranberry Almond Crunch, special flavour editions of Jell-O, Stove Top Classics, Philadelphia Snack Bars and a microwaveable Kraft Dinner were all well and good, but weren’t enough to do more than keep a $20 billion-plus food business ticking over. Kraft Foods’ sedate growth coupled with the increasing size and power of the major retailers was shifting the balance of power away from the company. This, along with the usual tobacco cash mountain, persuaded Philip Morris to go for another big food acquisition. In 1999, RJR Nabisco was mired in tobacco-related litigation cases, which were depressing the stock value of the entire enterprise. This prompted the company to divest itself of the tobacco business and rename itself the Nabisco Group Holding Corp. The company’s sole asset was an 80.1% share in the Nabisco food business: 19.9% having been placed on the stock market in the mid-1990s. The next year Philip Morris took its chance and acquired Nabisco Holdings for $18.9 billion and, having learnt the lessons from keeping General Foods and Kraft apart for too long, immediately began to merge the two. The next year Philip Morris sold a 16.1% stake in the newly enlarged Kraft Foods. The initial $8.4 billion public offering was the second biggest in US history.
In 2001, Kraft Foods was a gigantic foods business, the largest in North America and the second largest in the world. Only 0.4% of American households did not buy any of the expanded company’s products. Thirty-five of its brands had been around for more than 100 years, although that was not necessarily a benefit, while six brands each had revenues of over $1 billion. The integration of Nabisco increased company revenues by 28% to $33.9 billion, around 75% of which came from the US. The volume increase of 3.7% in the first year indicated that management distraction had been avoided this time around.
The combined product portfolios fell into five product categories:
New products generated around $1.1 billion in the year, which, at a little over 3%, showed how far the company was still off the pace on this measure. More encouragingly, volume grew by 11% in Developing Markets, although Latin America and Asia Pacific combined only accounted for around 9% of total sales.
The new business defined its strategy as follows:
Accelerate growth of core brands – innovation would be focused on four high-growth consumer needs: snacking, beverages, convenience meals, and health and wellness.
Drive global category leadership – Kraft Foods was now a huge business, so making size count seemed a good idea.
Optimise the portfolio – slow- or no-growth categories would go (first on the list was the French confectionery business sold to Cadbury), while acquisitions in high-growth categories or countries would be sought.
Deliver world-class productivity, quality and service – as if any business would say otherwise.
Build employee and organisational excellence – ditto.
Long on generic statements and the whats, you may think, but rather short on the hows.
But the rate of progress was maintained in 2002 with another 3% volume increase, albeit assisted by the acquisitions of a Turkish snack business and the Australian distributor of Nabisco biscuit brands. New products contributed the remainder with Double Delight Oreo driving the brand to its highest ever US market share of over 14%; Chips Ahoy! Cremewiches; Velveeta Creamy Potatoes; and co-branded efforts across old company lines such as Oreo and Chips Ahoy! Jell-O No Bake pies. Pretty much the only existing lines putting on double-digit growth were the Capri-Sun and Kool-Aid Jammers ready-to-drink beverages and DiGiorno pizzas.
If it was not already clear that adding together two low-growth businesses leaves you with a bigger low-growth business, it became so in 2003. Sales volume increased by a measly 0.7%. This was not the outcome that Philip Morris had expected from its vacuuming-up of three of America’s major food businesses. For a management that had predicted a 3% volume growth to deliver only 0.7% meant something had gone badly wrong. The main issue was that unforeseen cost increases in commodities, energy, pensions and medical benefits had been passed on to the consumer as higher prices. The consumer, not unnaturally, had baulked at the prospect of paying more for Kraft’s pensions, and gone elsewhere. This drove down volumes and the share in US cheese, cold cuts, coffee, crackers and cookies (only a business as sprawling as Kraft could have at least five product categories all beginning with the same letter). The panic button was hit in September: $200 million was invested in four months to roll back prices and prop up sagging volumes.
But this was not an isolated incident of accountants pushing up prices while the marketing department was out at an agency party. It was symptomatic of a business not delivering growth and having nowhere to turn but pricing when something went wrong. Meaningful innovations were barely trickling out of the pipeline, and the portfolio was unbalanced when compared to the current consumer trends towards health and wellness, on-the-go snacking and hydration. The company was also unbalanced internationally, being too dependent on developed markets such as the United States, the United Kingdom and Australia while its China business was going nowhere. Nettles had to be grasped.
New structures, strategies, investment levels and areas of focus were announced. The company would move to a full-on matrix structure where global category teams would be responsible for category development, global brand management and innovation. A new four-point strategy was unveiled:
Build superior brand value – a belated recognition that not enough brands had more relev
ant benefits than the competition, per dollar paid.
Transform the portfolio – this was now badly out of whack with consumer, customer, retail and demographic trends.
Expand global scale – emerging markets had to be taken seriously.
Reduce costs and asset base – in other words, 1–3 were going to be expensive. A major restructuring was announced that would close twenty factories and slash 6,000 jobs
Another announcement was that a further $600 million would be ploughed into shaving down prices and propping up volume during 2004 alone. This would expect to result in volume growth creeping up to 2% (including any acquisitions) – not the best return from $600 million. Kraft Foods, and the people running it, seemed to be on shaky ground.
How Is It Structured?
Even more than with Kraft’s international development, it is instructive to consider the evolution of Kraft’s management structure before the merger with General Foods and the incorporation of Nabisco.
Immediately prior to being acquired by Philip Morris, Kraft had nine divisions reporting to a Chief Operating Officer: Refrigerator Products, Grocery Products, Frozen Foods, Dairy, Food Ingredients, Food Service, Sales, Operations and Technology, and International. The US-based product groups operated somewhat autonomously, with no over-arching marketing or category management structure. After the Philip Morris acquisition the decision was initially taken not to merge the five US food divisions. This was despite a project team recommending full integration as soon as possible. The latter was put off for another six years, partially because the merger of the two companies in Canada had gone very poorly, particularly in the Sales function. Both companies had vast product ranges: each sales team was very sketchy about the other’s portfolio. This led to a tendency for each salesman to promote the portfolio he or she knew best. The situation got so bad that the President of Kraft General Foods Canada was hauled in front of the heads of his seven top customers to be given a severe ear-bashing.
