Kraft Foods Group, Inc. faces a tough decision. Once the market share leader in the coffee industry, Kraft has seen its profits steadily decline in recent years. Keurig Green Mountain, Inc. is a fast-rising company that currently holds the highest percentage of market share in the coffee industry. Kraft must decide whether or not to purchase Keurig Green Mountain, Inc.
Our recommendation is for Kraft Foods Group Inc to acquire Keurig Green Mountain, Inc. By acquiring Keurig Green Mountain, Inc., Kraft will regain the highest market share in the coffee industry, enjoy money-saving strategic fits along the value chain, and combine expertise to improve our products through new innovation.
The recent decline in market share has led Kraft Foods Group, Inc. to re-evaluate its strategy in the coffee industry. Kraft could acquire Keurig to recapture the lead in market share or continue with the declining success of the current coffee brands, Maxwell House and Gevalia. Due to the large target market, strong brand loyalty, and big potential for profit in the coffee industry, Kraft should acquire Keurig and regain the lead in market share.
We recommend that Kraft Foods Group Inc acquire Keurig through an equity swap. Because Keurig has minimal debt and Kraft has a large amount of debt, an acquisition through an equity swap would be possible. The acquisition of Keurig is a financial fit for Kraft. After careful consideration of all of the available information, we believe that Kraft Foods Group Inc. should acquire Keurig Green Mountain Inc.
Kraft Foods Group, Inc. is one of the world largest multinational food companies. They operate in 80 different countries with over 90 total brands. Popular brands such as Maxwell House, Oreo, and Oscar Meyer make it one of the most well-known companies in the world. In 2012, Kraft Foods Group, Inc. had the second highest annual revenue of all food companies at over 54 million (Thompson, et al page 287). The company traces its roots back to J. L. Kraft; a Chicago citizen who began the company by purchasing cheese from a wholesale store and reselling it to individual customers. Kraft went from a being operated by a single-horse carriage to a worldwide conglomerate through successful mergers and well-known brand acquisitions. Kraft’s success began when they acquired Valveeta and Miracle Whip in 1920. Those acquisitions, combined with the purchases of Maxwell House, Nabisco, Jello, and Oscar Meyer in the early 1930’s continued to build Kraft’s notoriety. Kraft used successful acquisitions to become one of the most successful food companies in the United States. Kraft’s vision statement: ‘Helping people around the world eat and live better’, describes the company’s global commitment to providing healthy, affordable food products. Some of Kraft’s core values are to inspire trust, keep it simple, be open and inclusive, and to lead from the heart and the head. (KraftFoodGroups.com) Kraft must decide whether or not to acquire Keurig Green Mountain, Inc.
Keurig Green Mountain, Inc. is the current leader in the home brew coffee market. Green Mountain Coffee was founded in 1981 and had its IPO in 1993. It is currently headquartered in Waterbury, Vermont and has over 6,300 employees. Currently, they have eight production and distribution facilities located throughout the United States and Canada. The company has research facilities in Burlington, Reading, and Wakefield Massachusetts.
The mission of Keurig Green Mountain, Inc. is to have ‘a Keurig brewer on every counter and a beverage for every occasion,’ and they have exemplified this mission by developing various home brewing technologies and high quality coffee products. The two main products that they are involved in are the production of Keurig home brewing machines and Keurig coffee K-Cups. In 2013, their Keurig machine was the number one brand coffee making in category dollar sales and their K-Cups were the number one single cup beverage brand in category dollar sales. These are their two main income streams, although other income comes from various other business activities including licensing fees.
Other facets of Keurig Green Mountain, Inc.’s mission are to partner for mutual success, innovate with passion, play to win, and brew a better world. One of their largest focuses of the company since its inception has been on sustainability. They are known for a resilient supply chain, sustainable products, and thriving people. Keurig Green Mountain, Inc. has been ranked as the ‘world’s largest purchaser of Fair Trade Coffee’ for three years in a row. In addition to that certification, over ’95 Keurig Green Mountain, Inc. products are Fair Trade Certified.’ These aspects combine to form their ultimate goal which is to ‘brew a better world.’
Kraft Foods Group, Inc.
Kraft Foods Group, Inc.
Dec 28, 2013 Dec 29, 2012 Dec 31, 2011
Revenues 18,218,000,000 18,271,000,000 18,576,000,000
Net Income 2,715,000,000 1,642,000,000 1,775,000,000
Current Ratio 1.44 1.34 1.27
Debt-to-Equity ratio 1.92 2.79 .002
Kraft Foods Group, Inc. financials are fairly strong but there are some key aspects of the company that need to be further explained. Revenues for 2011, 2012, and 2013 have been steadily declining but gross profit for all three years has been increasing (from $5,763,000,000 in 2011 to $6,823,000,000 in 2013). This is due to all of the cost cutting/saving that the company is doing. Cost of goods sold and operating expenses have both decreased since 2011 making net income shoot up from $1,642,000,000 to $2,715,000,000 in 2013. Furthermore as for the balance sheet side of the company, the current ratio for 2011, 2012, and 2013 was 1.27, 1.34, and 1.44 respectively. An increasing current ratio is usually a good sign because the current ratio shows the firm’s ability to pay current liabilities using current assets that can be converted to cash in the near term. Therefore, if you have a ratio of 1.44 it means that for every $1 in current liabilities your company has $1.44 in current assets to pay it off.
Likewise, the debt-to-equity ratio for 2011, 2012, and 2013 was .002, 2.79, and 1.92 respectively. Debt-to-equity ratios that are below 1 give the firm a greater ability to borrow additional funds. Therefore, Krafts ratio of 1.92 for 2013 definitely puts creditors at a greater risk and is a signal of weaker balance sheet strength. Kraft Food Group, Inc. stock price performance has been very steady and there has not been much volatility. From their initial public offering on September 17, 2012 (45.67 a share) to their present day price of 55.64 a share, there has not been much of an increase in their stock; only a 23.37% increase in about a 19 months. With that said, Kraft’s stock doesn’t have big swings and thus has not very volatile.
Keurig Green Mountain, Inc.
Keurig Green Mountain, Inc.
Sep 28, 2013 Sep 29, 2012 Sep 24, 2011
Revenues 4,358,100,000 3,859,198,000 2,650,899,000
Net Income 483,232,000 362,628,000 199,501,000
Current Ratio 2.55 2.54 2.4
Debt-to-Equity ratio .09 .23 .30
Keurig Green Mountain, Inc. financial statements are very consistent with growth in revenues, gross profit and net income. Revenues for 2011 were $2,650,899,000, for 2012 they were $3,859,198,000, and for 2013 revenues were $4,358,100,000. Likewise net income has been steadily increasing for the last three years with net income going from $199,501,000 in 2012 to $362,628,000 in 2013 and $483,232,000 in 2014. As for Keurig Green Mountain, Inc. balance sheet information their current ratio for 2011, 2012 and 2013 was 2.4, 2.54, and 2.55 respectively. This means that for every $1 in current liabilities Kureig has 2.55 dollars in current assets to pay it off. Thus, this is a good sign because creditors know that Kureig has plenty of assets on reserve to pay their current debt and accounts payable.
Moving forward, the debt-to-equity ratio for Kureig Green Mountain, Inc. in 2011, 2012, and 2013 was .30, .23, and .09 respectively. A high debt-to-equity ratio generally means that a company is being aggressive in financing their growth with debt. As a result, there can be a lot of volatility in earnings because of the additional interest expense. Nevertheless, Kureig’s debt-to-equity ratio is very low which puts them in a stronger position because creditors are now willing to give out more debt if Kureig needs it. Not to mention all of the assets that Kureig has on their balance sheet. With a current ratio of 2.55, creditors are more likely to issue debt because in the event of liquidation/bankruptcy creditors know that the company will have sufficient funds to pay back their debt. Kureig Green Mountain, Inc. stock price performance has measured fairly well with a 30.19% increase for 2011 (from 34.34 to 44.85), -13.37% for 2012 (46.58 to 40.35) and a 75.95% increase in 2013 (from 42.87 to 75.43). Therefore in the last 3 years the stock price has gone up by 118.96%, which indicates a positive trend for the company.
ECONOMIC AND STRATEGIC TRAITS
The U.S. coffee industry is one of the largest industries in the United States and has seen a huge rebound over the past year as consumers have seen an increase in disposable income. To that effect, coffee is one of the most consumed beverages in the United States. In 2013, 83% of Americans reported drinking coffee at least once a week and nearly 60% reported drinking coffee daily. These statistics surpass all other beverage industries. In the U.S. alone, coffee is a $27.9 Billion dollar industry and is expected to grow at a rate of 3.8% over the next five years. The key question becomes, what section of the industry is growing and what portions are not.
The U.S. coffee market has changed dramatically over the last 10 years. As disposable income begins to rise again, consumers are looking for more than just your average cup of coffee. To that effect, the US coffee market is growing more specialized. While competition in this market is relatively low, there are a few key players.
In the fresh coffee market, Starbucks is the clear leader with 18.7% of market share. The only other company to come close to this is 7-Eleven which is at 3.9% market share. This leaves a slew of smaller coffee chains such as Dunkin Donuts, Caribou, fast-food chains and restaurants serving the remaining 77.4% of this market. While it may seem like Starbucks has a huge lead, the market for fresh coffee is only 37%. The remaining 63% is in consumer packaged coffee products that are found in grocery stores across the country.
The largest section of the coffee market, 63% in 2013, is the consumer pre-packed coffee market. This large market includes instant coffee, bagged coffee beans, and specialty coffee products. Within this subset of the overall coffee market, Keurig Green Mountain, Inc. holds an advantage over all competitors at 27.3% of the market share. This contrasts sharply with Kraft which is at 10.6% market share. This market is growing at a much quicker pace than the overall beverage industry, and should continue to provide strong growth into the future.
Strategically, the pre-packaged coffee market has very high levels of competition, concentration and higher than average capital intensity. With that in mind, it is quite difficult for new companies to enter this market and gain significant market share. A company choosing to diversify themselves into the coffee industry will experience significant challenges. The best diversification option for a company would be to acquire another company to gain a foothold into this market. Kraft Foods, has been a company full of diversification throughout its history. They have done this through a blend of internal development and acquisitions of other companies. Kraft, being overall a food company, would be considered a related business diversification strategy. They have a history of entering new food markets, but really have not entered into any unrelated businesses. This aligns with a strategic fit for their organization in sharing resources and maximizing shareholder value.
Keurig Green Mountain, Inc. employs a much more blended diversification strategy. Their main business is in producing and selling coffee through retail businesses and online at their website. However, they also have developed the Keurig machine, which created an entirely new market segment in the retail coffee environment. Their two main activities, producing a coffee maker and also producing the coffee that goes into them, create important cross-business relationships at the value chain level that can save money. A third business activity for Keurig Green Mountain, Inc. has been licensing their K-Cup design, which deals more with intellectual property. In the case of Keurig Green Mountain, Inc., every activity is related to one another; however all utilize very different resources to come to fruition. While they have a strategic fit in distribution, R&D and marketing activities, they vary deeply in manufacturing and customer service related activities.
In the coffee market segment, Kraft employs a best-cost provider strategy. It has positioned itself to be the best of both worlds in terms of price, quality, and brand recognition. Kraft does this by using different branding on its line of coffee products. The most successful brand of Kraft’s coffee line is the budget, no frills Maxwell House line. This line has very high brand recognition, but provides users with a very low frill, low quality product. Users are buying it because of its low price, not because it offers some sort of advantage over other brands. In contrast to Maxwell House, the Gevalia brand is a specialty coffee. This brand goes for a more niche customer, utilizing a higher quality coffee. The result has a higher price point than Maxwell House. With Gevalia, Kraft is really going after value-conscious buyers who want more than your average cup of coffee but do not want to pay a high price.
Keurig Green Mountain, Inc. employs a focused differentiation strategy. They are going after a certain niche of buyers who are looking for more than your run of the mill coffee product. The overall coffee industry has many niches, and Keurig Green Mountain, Inc. has been very successful in being profitable with this competitive level strategy. The bulk of their income comes from sales directly related to their K-Cup brewing technology. This is a specific niche that they created and operate in. With this in mind, they have focused their efforts on the home brewing segment of the market. Companies such as Kraft focus on this market as well, but they are more diversified and focus on the entire segment as a whole. As this niche markets grows larger and larger, it will be important for Kraft to focus more resources on this segment in order to not fall behind its competitors.
Coffee is not only the second most sought after commodity in the world, it is an essential part of life for many people. With the entire industry worth over 100 billion dollars worldwide, coffee can be considered more valuable than gold, natural gas, and sugar (Goldschein). It has played an important role in human life since its discovery in Ethiopia in the 15th century. According to legend, Kaldi, a local goat herdsman, discovered his goat eating berries from a coffee tree. This goat became so energetic that it did not sleep all night. Kaldi reported his findings and coffee became an integral part of human culture that still remains (NCA, 2012).
In America today, over half of the population drinks at least one cup of coffee per day. On average, coffee drinkers in America consume around three and a half cups of coffee per day (Frontline). The important role of coffee to people is well documented throughout history. From being used as an advantage over rivals during wars to being considered the cause of Satanic worshipping, the coffee industry will always be an important part of human life.
The competition from rivals in the coffee industry is very strong. Powerful and popular corporations such as Starbucks and Dunkin Donuts dominate most of the market share of coffee consumption in America. These companies have well-known brand names and inspire long-term brand loyalty that is hard to compete with. McDonalds, who recently introduced a line of premium blend coffee, is also poised to become a major player in the coffee industry. As the size, capability, and quantity of competitors in the industry continue to increase, the competition among rivals does as well. (Thompson et al, page 52) Financially strong companies like Starbucks and McDonalds have more resources available for competitive moves such as marketing campaigns and the innovation of new products. In the coffee industry, there are many different vendors and it is free for buyers to switch brands. Because there are no switching costs, it is easier for companies to steal customers from rivals. Frequent brand switching leads to intense competitive moves between rivals. Low switching costs and frequent brand switching increases the intensity of the competition between rivals.
Many industries face pressure from a potential new company entering the market and stealing valuable market share. Fortunately, the coffee industry does not face this problem as often because the threat of new entrants is relatively weak. Many coffee drinkers have a specific taste preference that usually comes with strong brand loyalty. Some loyal Starbuck’s customers will not drink coffee at all unless it is specifically Starbuck’s brand. 20% of Starbucks customers visit the store at least 16 times per month, or once every two days (Lepore). This extreme brand loyalty makes it difficult for new companies to enter the market. Potential new businesses must have the financial resources to overcome customer loyalty (Thompson et al, page 56). Large expenditures on advertising and marketing are often the only way to overcome extreme customer loyalty.
The cost advantages held by the incumbent businesses are also a deterrent for potential new entrants. Established brands such as Dunkin Donuts and Starbucks possess not only extreme brand loyalty, but also other specific advantages over new entrants. Finding a favorable location is a difficult task for new entrants because there is a coffee shop on almost every street corner. According to Businessinsider.com, Starbucks currently has 16,850 coffee shops in 40 different countries. 10,940 of which are located in the United States (Lepore). On average, Starbucks has opened two new stores every day since 1987 (Bonander). With the sheer magnitude of competitors such as Starbucks, it is difficult for new entrants to find not only room in the customer’s mind, but also in a favorable location. Incumbents also have an advantage over new entrants because they have captured scale economics in production. This is captured when a company produces enough of a product that it drives down production costs (Thompson et al, page 58). Large companies such as Dunkin Donuts have a built-in cost advantage because they produce coffee on such a large scale.
Substitute products can often be very damaging to an industry. If a customer sees a substitute product that is easily available and comparatively priced, why should the customer buy your product? In the coffee industry, the competitive pressure of substitute products is moderate. On one hand, substitutes are readily available and often cheaper than coffee. If a customer is in need of caffeine, he or she has the option of a soft drink or energy drink. If a customer is looking for a morning meal, many people prefer a large breakfast or a smoothie. Others do not eat breakfast or drink caffeine at all. All of these substitute options are easily available, comparatively priced, and sometimes even healthier.
Although many substitute options exist, many coffee drinkers do not see these substitutes as comparable in quality. To these customers, there is nothing equal to a cup of coffee. While other options provide similar benefits, they do not provide the complete satisfaction that coffee does. Because coffee has many readily available substitutes but they are not completely equal in quality, the competitive pressure from substitute products is moderate.
In comparison with other industries, the supplier bargaining power in the coffee industry is weak. Coffee is grown in many countries around the world; affording coffee companies a wide range of suppliers to choose from. Even though demand for coffee is always high, the coffee beans are never in short supply. The vast amount of coffee that is available greatly decreases the bargaining power that suppliers have. Another reason that supplier bargaining power is weak is the ease of switching suppliers. Although companies such as Keurig Green Mountain, Inc. significantly value long-term relationships with their suppliers, it does not cost much to change suppliers. If a supplier decides to raise their prices or provides an inadequate product, finding a new supplier is cheap and easy. The final reason supplier bargaining power is weak is the relatively similar input that coffee requires. Many coffee stores have unique drinks but the original input is always the same: coffee beans.
In the coffee industry, buyers have relatively strong bargaining power. Although they do not have the power to negotiate prices, there are many different options for a potential customer to choose from. This gives the buyer significant power to choose where he or she wants to go. The massive amount of coffee shops combined with no switching costs for the customer increases the buyer’s bargaining power. It does not cost a customer anything to buy from Dunkin Donuts instead of Starbucks. If Starbucks decided to increase their prices, customers have the choice to buy coffee from another company. Another reason that buyer bargaining power is strong is the standardization of the products. Although slightly different, many coffee shops offer relatively the same choices. While Starbucks may be the only place to order a ‘Hazelnut Macchiato’, other businesses offer a similar, comparable product. The low degree of differentiation between products further increases the customer’s bargaining power (Thompson et al, page 60).
Overall, the five competitive forces of the coffee industry make it moderately attractive place for a company to earn profits. While it is not perfectly ideal, low competitive pressure from new entrants and the low bargaining power of suppliers create an environment that is conducive to business success. The strong competition from rivals, strong bargaining power of buyers, and the moderate threat from substitutes provide potential challenges in the coffee industry. Although the situation could be more attractive, business success is possible in this environment.
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