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Acquisitive Flowers seeks bigger slice of U.S. bread market

The price of bread is seen on a store shelf in New York April 7, 2011. REUTERS/Lucas Jackson
The price of bread is seen on a store shelf in New York April 7, 2011. REUTERS/Lucas Jackson

By Maria Ajit Thomas and Siddharth Cavale

(Reuters) - From a family bakery to the largest American-owned company in the $30 billion U.S. baking industry, Flowers Foods Inc has risen a long way since it was founded nearly a century ago.

The acquisitive baker has plans to become even bigger.

Flowers is the preferred bidder, or "stalking horse", for the bread brands and bakeries up for grabs after the bankruptcy of one-time competitor Hostess Brands, the maker of Twinkies.

If its $390 million bid is successful in a court-supervised auction on February 28, Flowers will extend its lead over most of its remaining rivals in a fast-consolidating industry, where smaller players are struggling with excess capacity and low margins.

"(The acquisition) will be very advantageous to their margin structure and earnings, and will give (Flowers Foods) productive assets in markets they will be targeting for the future," said Heather Jones, an analyst at BB&T Capital Markets.

It's a strategy the company has followed since its inception in Thomasville, Georgia in 1919 - still its headquarters today.

That first bakery made 30,000 loaves a day; Flowers now operates 44 bakeries and says about 70 percent of the U.S. population has access to its fresh products. That's nearly 220 million people.

The company, which owns the Cobblestone Mill and Nature's Own brands, has made more than 100 acquisitions since going public in 1968. Ten takeovers since 2004 have added $737 million to its top line, Flowers says in a presentation on its website.

Only Bimbo Bakeries, owner of Sara Lee and part of Mexico's Grupo Bimbo, has a bigger share of the U.S. bakery industry, which market research company First Research says generates about $30 billion in annual revenue.

But overall demand, while high, has little room to grow.

U.S. industry research company IBISWorld, in a report published in September, forecast that the U.S. bread industry would grow just 0.3 percent annually in the 10 years to 2017, compared with forecast average annual GDP growth of 1.9 percent.

Frequent promotions to win market share, as well as competition from supermarkets that have built their own bakeries, have eaten into the margins of the biggest bakeries.

The last decade in particular has borne witness to industry consolidation as companies like Flowers and Bimbo have bought established bakeries to extend their geographic reach and boost profitability without significantly increasing overheads.

Since Hostess Brands closed its baking business last year, only three commercial bakers -- Bimbo, Flowers and privately owned Pepperidge Farm -- have a U.S. market share of 5 percent or more. In 2000, the industry had eight big commercial players.

NEXT GROWTH OPPORTUNITY

Family ties were cut when Langdon Flowers, son of co-founder William Howard Flowers, resigned his honorary directorship in 2004. He had stepped down as chairman nearly 20 years earlier.

Flowers' largest shareholders as of December 31 were investment firm T. Rowe Price Group, with a 7.1 percent stake, and mutual fund company Vanguard Group, with 4.7 percent. The company has a market capitalization of $3.83 billion.

Several Wall Street analysts commended Flowers for a 200-basis-point quarterly increase in gross margin, which stood at 47.9 percent at the end of the fourth quarter.

But some had been expecting even more.

"The lack of corresponding margin lift speaks to our broader concerns about the extent to which profitability can improve in the tough, over-competitive bread industry," Janney Capital Markets analyst Jonathan Feeney wrote on February 8.

The bankruptcy of Irving, Texas-based Hostess Brands offers the next big growth opportunity for Flowers.

Its "stalking horse" bid comprises two parts -- $360 million for 20 bakeries, 38 depots and the Wonder, Butternut, Home Pride, Merita and Nature's Pride brands; plus $30 million for the Beefsteak brand.

Flowers plans to fund the transaction with cash on hand plus debt. As of December 29, the company had cash and cash equivalents of $13.3 million and, in November, it amended and extended a $500 million loan facility.

The company declined to comment ahead of the auction.

Reaction from investors has been positive. Flowers' shares have risen 25 percent since November 20 when Hostess, crippled by a strike, announced it would liquidate its assets.

Flowers' bid excludes the snack cake business of Hostess -- home of the Twinkie -- for which a $410 million offer by private equity firms Apollo Global Management LLC and C. Dean Metropoulos & Co is the baseline bid.

This does not, however, preclude Flowers from making a counter bid -- just as others may challenge its bread offer.

'BELOVED IN PHILADELPHIA'

Were it to acquire the Hostess brands, Flowers would gain market share, as well as manufacturing and distribution assets, in the U.S. Northeast, Midwest and Southwest.

Flowers has already moved into the Northeast with its recent acquisitions of Maine-based Lepage Bakeries and Tastykake maker Tasty Baking Co -- "a beloved part of Philadelphia culture", Flowers says on its website.

According to Information Resources Inc's Total U.S. Census Region MultiOutlet data for the year to August 5, Flowers' branded and store-brand products had a 12.4 percent share of the U.S. baking market.

The Hostess brands had a 7.1 percent share, meaning Bimbo, with 32.7 percent, would still have a bigger market share than a combined Flowers-Hostess bread company.

In the southern United States, however, Flowers and Hostess together would enjoy a 37.0 percent market share versus Bimbo's 27.5 percent. It's a far cry from a smalltown bakery in Georgia.

(Editing by Robin Paxton and Ted Kerr)

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