Activist Jana is again within the kitchen at Lamb Weston. How the agency may help construct worth

Enterprise: Lamb Weston is a worldwide producer, distributor and marketer of value-added frozen potato merchandise. The corporate is a provider of frozen potato, candy potato, appetizer and vegetable merchandise to eating places and retailers across the globe. Lamb Weston’s frozen potato merchandise are offered in North America and worldwide markets typically to North American-based restaurant chains and worldwide clients, comprised of worldwide and regional fast service and full-service restaurant chains, food-service distributors and retailers. Its product portfolio consists of frozen potatoes and appetizers offered beneath the Lamb Weston model, in addition to many buyer labels.

Inventory Market Worth: $10.99B ($77.09 per share)

Possession: 5.35%

Common Price: $60.75

Activist Commentary: Jana is a really skilled activist investor based in 2001 by Barry Rosenstein. The agency made its identify by taking deeply researched activist positions with well-conceived plans for long run worth. Barry Rosenstein referred to as his activist technique “V cubed.” The three “Vs” have been (i) Worth: shopping for on the proper value; (ii) Votes: understanding whether or not you might have the votes earlier than commencing a proxy combat; and (iii) Number of methods to win: having a couple of technique to reinforce worth and exit an funding. Since 2008, the agency has step by step shifted that technique to 1 which we characterize because the three “Ss” (i) Inventory value: shopping for on the proper value; (ii) Strategic activism: sale of firm or spinoff of a enterprise; and (iii) Star advisors/nominees: aligning with high business executives to advise them and take board seats if mandatory.

Jana, together with Continental Grain, intends to have discussions with Lamb Weston relating to a slate of matters. They embody Lamb Weston’s monetary efficiency and core working deficiencies, capital spending, share repurchase technique and execution, investor communications, govt compensation, company governance and the initiation of a strategic assessment. Moreover, Jana has entered into nomination agreements with (i) Bradley Alford, former chairman and CEO of Nestlé USA; (ii) Diane Dietz, former president and CEO of Rodan & Fields and previous CMO of Safeway; (iii) John P. Gainor Jr., former president and CEO of Worldwide Dairy Queen; (iv) Timothy R. McLevish, former govt chairman of the board of Lamb Weston and previous CFO of Kraft Meals; and (v) Joseph E. Scalzo, former president and CEO of The Merely Good Meals Co.

Lamb Weston is without doubt one of the largest frozen potato suppliers on this planet, rating No. 1 in North America and No. 2 globally. For over 70 years, the corporate has produced and distributed frozen fries and different potato merchandise to eating places, meals service distributors and retailers. In North America, it’s one in every of three to 4 main gamers in an oligopolistic market and has been the beneficiary of tailwinds akin to elevated demand, minimal labor required and excessive gross margins. Lamb Weston was initially acquired by ConAgra Manufacturers in 1988. In June 2015, Jana filed a 13D on ConAgra, at which its marketing campaign was tripartite: (i) margin enchancment; (ii) separation of its underperforming personal label enterprise, Ralcorp; and (iii) the separation of its trophy asset Lamb Weston, which the agency mentioned was being misplaced and never correctly valued inside ConAgra. The corporate and Jana would enter right into a cooperation settlement shortly thereafter, pursuant to which ConAgra agreed to extend the dimensions of the board by two members and appointed Jana designees Bradley A. Alford (the previous CEO of Nestlé USA) and Timothy R. McLevish (the previous CFO of Kraft Meals) to the board. In November 2015, ConAgra agreed to promote Ralcorp to Treehouse Meals and introduced its plans to separate Lamb Weston within the fall of 2016. 

In June 2016, it was reported that talks to conduct a transaction between cereal-maker Put up Holdings and Lamb Weston collapsed, possible on the one-yard line contemplating how shut this was to administration’s fall goal for the spin. Following this failure, administration was compelled to hurry to conduct the spin-off of Lamb Weston, which was accomplished in November 2016. The brand new firm can be led by CEO Tom Werner, who nonetheless serves within the position immediately. Werner had been considerably of a journeyman inside ConAgra, having previously been the corporate’s president of business meals and interim president of personal manufacturers. He was an fascinating alternative to guide the newly spun-off Lamb Weston, contemplating his unknown profile to the Road on the time. To bolster the corporate’s oversight, Jana’s ConAgra designee and the previous Kraft CFO McLevish was named govt chairman of Lamb Weston. Underneath the mixed tenure of McLevish and Werner, the inventory rose 46% to $46.58 per share by the point McLevish stepped down following the corporate’s annual assembly in September 2017.

The corporate’s efficiency following the spin was glorious for a few years. As of Lamb Weston’s investor day in October 2023, issues appeared good. From FY17 to FY23, the corporate had grown web gross sales at a 9% compound annual progress price and adjusted earnings earlier than curiosity, taxes, depreciation and amortization at a ten% CAGR. It additionally improved adjusted gross margins by 340 foundation factors. As well as, lower than seven years after the spinoff, Lamb Weston’s shares have been buying and selling at round $115 in June 2023, a complete shareholder return of over 259%, versus 98% for the S&P 500, and 63% for the S&P 500 Meals & Beverage. Nevertheless, issues haven’t been going properly since then. In 2024, previous to the announcement of Jana Companions’ stake, Lamb Weston’s shares have been down over 30%, whereas the S&P 500 is up over 20%. In July 2024, the corporate introduced its This autumn earnings, which fell manner in need of expectations. The corporate reported that web gross sales dropped 5% 12 months over 12 months and adjusted EPS fell 40% to 78 cents, properly under estimates of $1.26 per share. The corporate cited market share losses and a slowdown in restaurant visitors as a consequence of menu value inflation that was larger than anticipated, in addition to a voluntary product withdrawal as elements.

This poor efficiency of a superb, however struggling, fry maker has opened the door for a brand new prepare dinner within the kitchen: Jana Companions. Now, issues are starting to warmth up. The first points dealing with this firm highlighted by Jana are capital misallocation, a collection of operational blunders and company governance failings. First, on capital allocation, the corporate has been spending on rising capability in an intense pursuit of progress at any value. On the Lamb Weston’s investor day, it registered capital expenditure as a p.c of gross sales of almost 14% in 2023. The corporate projected it might be 12% to 13% in 2024 and 2025, respectively, and 9% long run. Lamb Weston’s upkeep capex is round 3%, and the corporate would not present very a lot element on what precisely it wants an extra 600 foundation factors for nor why the capex funds ought to mechanically enhance proportionally to income with none analysis as to what’s wanted. As well as, very unusually, the corporate has doubled income since its spin, but it has been rising promoting, normal and administrative bills as a p.c of web gross sales for a number of years, and the corporate set an elevated 10.5% to 11% long-term goal. It’s a little suspicious that the present govt compensation plan prioritizes income and EBITDA progress in greenback phrases, which incentivizes administration to spend as a lot capex as they wish to develop income and EBITDA, even when it means a lower in money movement. Whereas the anticipated silver lining to the big capex spend can be extra capability and a rise in market share, by way of a number of self-inflicted operational blunders the corporate has actually misplaced many purchasers and degraded its efficiency. First, Lamb Weston improperly executed a rollout of a brand new enterprise useful resource planning system, which has led to difficulties monitoring and supplying product to its clients. As well as, in an try at rising its margins, the corporate lower lower-margin clients in favor of higher-margin ones, earlier than signing up the higher-margin clients. This left Lamb Weston with usable services that have been being shut in favor of the newer services that weren’t close to capability and product that it couldn’t promote. This compelled the corporate to waste almost $100 million price of potatoes.

Now, Jana, who is aware of this firm very properly, is again with an all-star roster of business executives, two of whom have been there with the agency nearly 10 years in the past when it orchestrated the spinoff of Lamb Weston. Together with strategic companion Continental Grain and former Lamb Weston govt chairman McLevish, Jana can also be working with Scalzo, former CEO of Merely Good Meals; Dietz, former CMO of Safeway; Alford, former CEO of Nestlé USA; and Gainor, former CEO of Worldwide Dairy Queen. This can be a group constructed for a board refreshment: 5 business executives, Continental Grain and members of Jana, who know this business and firm properly. We count on that Jana will look to get 5 of those people on to the 11-person board. If empowered to behave, by way of both a settlement or shareholder help on the subsequent annual assembly, Jana will work to appropriate Lamb Weston’s quite a few operational and capital allocation missteps. Subsequent, the agency will work to get the corporate’s capex and SG&A beneath management, enhance free money movement and be certain that administration incentives are aligned with shareholder worth creation. As well as, there’ll should be some severe operational enhancements to treatment the corporate’s strained relationship with many present and former clients. Administration selections wouldn’t be made till a refreshed board bought an inside have a look at Lamb Weston, however a brand new administration group would possible go a good distance regaining the corporate’s credibility with clients and buyers. Additional, nearly any one in every of Jana’s nominees may arguably take over as CEO: It’s onerous to see a situation the place CEO Werner would proceed in his submit if Jana have been to win right here.

Lastly, as all the time with Jana, there stays a strategic angle contemplating the agency’s profitable monitor report on this type of activism. Put up stays candidate for a possible transaction. Since Lamb Weston’s spin, Put up has delivered a complete return of over 120% and is extensively thought of to have among the best administration groups in shopper packaged items. Extrapolating from the failed 2016 deal and adjusting for EBITDA progress, it might not be shocking to see a takeout supply north of $100 per share. If that have been the case, the board must consider that worth for shareholders versus the long-term prospects of an operational plan, and it might be very useful having a companion from Jana on the board for that evaluation.

Ken Squire is the founder and president of 13D Monitor, an institutional analysis service on shareholder activism, and the founder and portfolio supervisor of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments. Lamb Weston is owned within the fund.