This section describes the forecast of the main cost structure items, which are COGS and the various other operational expenses. COGS are by far the largest incurred cost, but is also highly affected by external factors as discussed in section 3 & 4 The various other operational expenses are undergoing vast organizational change and are part of Campbell’s latest cost-cutting initiative which seeks to find a saving of $300 million in yearly expenses (Campbell Soup Company, 2015a). The full overview of the cost forecast, for all scenarios, is found in appendix 19 and 20.
7.2.1 Campbell’s Cost Cutting Initiative
Campbell’s announced and launched its cost cutting program in early 2015, with the aim of slashing a yearly cost of $250 million over a three-year period, ending 2018. The program emphasizes on streamlining operations, making them more agile and able to cope with rapidly changing consumer trends that are stifling the packaged food industry’s sales growth. A clear part of this was the organization change of its business units, which previously was split in five segments but now is split into three (Campbell Soup Company, 2015a). The initiative is deemed the most aggressive cost cutting move in the company’s long history, and will be executed by “trimming” management and by introducing a new accounting routine. The new internal accounting system builds on so-called zero-based budgeting which requires departments to justify spending without leaning to historical trends (The Wall Street Journal , 2015).
After its first year the cost cutting program proved more effective than first anticipated, delivering $80 million in cost savings, which led Campbell to increase its 2018 target from $250 million to $300 million. In the base scenario, expectations are in line with those communicated by Campbell. In 2016, the estimated cost savings is $150 million which is equal to 1.8% of estimated total sales. These cost savings are deducted from “marketing and selling expenses”, “administrative expenses”, “research and development expenses”, and “other expenses” in weighted maneuver, such that 54.6% of the $150 million are subtracted from “marketing and selling expenses”, since this accounting item accounted for 54.6% of the costs associated with the cost cutting initiative.
7.2.2 Cost of Goods Sold
Over the past 15 years COGS have on average stood for 55.8% of total sales. The development however, has been upward sloping with COGS equal to 49.7% in 2001 and 61.5% in 2015. The strategic analysis assessed that Campbell holds a strong position with its suppliers, and the cost of raw materials have not increased in this period.
The likely cause is that margins have been reduced as the competition from the low price category has increased since the financial crisis. Although the authors expect the U.S. economy to grow in coming years, it is difficult to picture a scenario where Campbell can negotiate higher margins as the retail industry holds a strong bargaining power (see section 4.2). The assessment is however that the gross margin will increase slightly, but the authors believe this will be possible through developing and re-branding new quality products with higher margins within their high growth segments such as healthy and organic alternatives, something Campbell is doing (Campbell Soup
83 Company, 2015a). The base case hence expects Campbell to operate at gross margin of 38.5% for the next few years which will gradually increase to around 41% in the terminal period.
7.2.3 Marketing & Selling Expenses
Where COGS have seen an upward sloping development, marketing and selling expenses have seen the opposite, with 2001 accounting for 15.4% and 2015 accounting for 10.9%. Over this 15-year period the average has been 14.4%, and going forward the author’s believe in Campbell’s ability to cut future marketing and selling expenses through its cost cutting program, resulting in a slight estimated decrease in the budget period, from 9.9% in 2016 to 9.4% in 2025. Marketing initiatives are increasingly being executed through online channels, such as social media and proximity networks (see section 4.1.4). This allows for more effective marketing and is also cost effective.
Campbell has shown to be good at implement and actively use such channels, which is why we expect Campbell to stay at the low level around 10% of sales for all scenarios.
7.2.4 Administrative Expenses
Administrative expenses have generally seen a flat development over the past 15 years, representing 7% in 2001 and 7.3% in 2015 of total sales. The 15-year average is 7.6%, with its highest values being around 8% of total sales.
Administrative expenses in the second largest expense that is part of the cost cutting program, and is a clear target area as Campbell re-organizes its business units. With the full re-organization taking effect in 2015, the expense is expected to represent a smaller share of total sales.
7.2.5 Research & Development Expenses
Research and development expenses have on average laid around 1.4% of total sales. From 2001 until a few years ago, the trend was upward sloping, but in the last three years the cost has remained stable around the historical average. As revenue is expected to grow further in the next years it is the assessment of the authors that R&D represent a smaller fraction of revenue, also affected by the cost cutting initiative. The result is a forecasted development that sees the cost item reduced by 10 basis points each year as a percentage of total sales until 2018 7.2.6 Other Expenses
Other expenses have been relatively volatile over the past 15 years, but due to the small magnitude of this cost, equaling only 0.3% of total sales on average, the changes have had an insignificant impact. The cost is part of the cost cutting program, but most cost cuts are expected to be materialized in other areas, so “other costs” change relatively little and is estimated to lay between 0.25% and 0.27% in the base scenario.
7.2.7 Restructuring Charges
Like “other expenses” restructuring charges has been relatively volatile over the past 15 years. Restructuring charges are generally not a continuous expense, but rather an expense depending on the level of restructuring and changes in the firm’s operations and management. The 15 years’ historical average therefore serves as the best proxy for future estimation, but the restructuring charges associated with the cost cutting program also needs to be accounted for, which is why the restructuring charges is set to 1.3% of total sales until 2018, before converting towards the 15-years average of 0.4% over the course of the budget period.
Forecasting
84 7.2.8 Summary
The forecast is fairly optimistic but the general assessment of Campbell also shows a company that consistently has held very good margins and been able to manage costs. Their gross margin is one of the highest compared to peers, and although the EBITDA margin has been decreasing slightly Campbell is performing very strongly compared to its peers. The real issue for Campbell has been their lack of growth, the authors however believe that growth is coming and that the company is positioning themselves very well in new segments. When Campbell starts to see growth it is unlikely that costs will begin to increase at a higher pace than sales, one aspect is that the industry is all about scalability and such a development would defeat the effect of scale. Another factor is that Campbell historically has been a top performer when it comes to managing costs, their new initiative is exceeding expectations, so there is a strong history in being able to reduce costs and keep them there.
Bear Base Bull Peer Average Best Peer Campbell's
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Source: Authors own compilation based on own assessment and (Campbell Soup Company, 2001-2015) Figure 32. Historical and Forecasted development of Cost Structure metrics
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85 undervalued sufficiently to support a buy-out. The DCF and supporting enterprise value added model can be found in appendix 28 and 29. In order to perform a DCF analysis the cost of capital is determined in section 7.1.
The full results of the estimation of cost of capital and the valuation are presented in appendix 23 to 27.