Unilever: Upcoming Ice Cream Exit Could Be A Huge Step In The Right Direction (NYSE:UL)

Earlier this week, consumer goods giant Unilever (NYSE:UL) announced that it is planning to exit the ice cream business and cut away 7,500 jobs as a result of launching its productivity program. Also, this program would lead to a total of around €800M of cost savings over the next three years, offsetting restructuring costs arising from the exit of the ice cream business.

The restructuring is likely to be an impactful step for Unilever, although I was surprised by the exit from an entire business segment. In this article, I will look into the company’s ice cream business and try to analyze if the business change from Unilever to move away from ice cream seems a prudent strategy.

Unilever and ice cream

Unilever announced spinning off its ice cream business, as a part of a new cost-savings and restructuring program. The separation of the business from the core company has already started and is expected to finish by the end of 2025. It is not sure if the new entity would be a public or private one, as Unilever also recruited bankers to solicit private equity interest in the business.

This is a significant decision, as ice cream was no small part of Unilever’s total operations over the last couple of years. I was aware of Unilever’s restructuring plans, but still, the decision to split off an entire division came as a surprise to me. And at first glance, I also didn’t expect it to be the ice cream division, as on the 1st of August 2023, Yasso, a premium frozen Greek yogurt brand in the US, was still acquired by Unilever.

But when looking something deeper into the financial performance of the different divisions of Unilever, the decision to cut out ice cream seems more logical. From Unilever’s 2023 annual report:

With a total turnover of €7.9B, ice cream amounted to more than 13 percent of the company’s total turnover in 2023. In terms of operating profit, the ice cream division has underperformed slightly compared to Unilever’s other segments:

The operating profit after tax of Unilever’s ice cream division has lagged compared to other divisions, at about 8% of its turnover. This can be compared to 15% for personal care, 14% for beauty & wellbeing, 9% for home care, and 14% for nutrition (I calculated these rates myself based on the tables I pasted here).

What is even worse, the underlying return on assets for the ice cream division seems way off compared to the others, ending up at only 33 percent while the other divisions are well above this:

This is likely due to the relative capital-intensiveness of ice cream production, storage, and transportation, which all need to be performed in below freezing temperatures. As you can see in the return on assets table above, €2,629M was booked as property plant and equipment for ice cream in 2023, while other ice cream items in this table were not significantly higher or lower than the other categories. This makes ice cream seem like a relatively inefficient business for Unilever, although it remains profitable.

Unilever’s strategy

Already last year, Unilever announced an action plan on how to improve its own performance. In my previous article about Unilever, I mentioned the plan and expressed my worry that the plan would not be a big enough change from a business-as-usual approach to make a large difference. I was apparently wrong because cutting out an entire division that amounts to 13% of company revenue is certainly not business as usual.

While the focus on 30 power brands does not seem to be in line with the exit of ice cream (4 of the company’s power brands are ice cream brands), this exit does answer to the ‘selectively optimize portfolio’ target.

As Unilever mentions in its press release concerning the separation of the ice cream division:

The Board believes that Unilever should be increasingly focused on a portfolio of unmissably superior brands with strong positions in highly attractive categories that have complementary operating models. This is where the company can most effectively apply its innovation, marketing and go-to-market capabilities. Ice Cream has a very different operating model, and as a result the Board has decided that the separation of Ice Cream best serves the future growth of both Ice Cream and Unilever.

The Unilever Board is confident that the future growth potential of Ice Cream will be better delivered under a different ownership structure. Ice Cream has distinct characteristics compared with Unilever’s other operating businesses. These include a supply chain and point of sale that support frozen goods, a different channel landscape, more seasonality, and greater capital intensity.

These remarks answer the question about why Unilever has chosen to split off an entire division instead of only focusing on its power brands and maybe cutting out underperforming smaller brands. Also, trying to find a new buyer for an entire division including world-class brands like Magnum and Ben & Jerry’s is likely easier than only cutting out the smaller brands.

Although the story about synergy is all true, it seems to me that spinning off ice cream is primarily a financial decision. I have shown earlier in the article that, though still profitable, the ice cream division underperformed the other divisions. Unilever mentions this about the future company without the ice cream division:

Following separation, Unilever will become a simpler, more focused company, operating four Business Groups across Beauty & Wellbeing, Personal Care, Home Care and Nutrition. These Business Groups have complementary routes to market, and/or R&D, manufacturing and distribution systems, across both developed markets and Unilever’s extensive emerging markets footprint.

This might be true to some extent, but the synergy seems to differ among the divisions. For instance, from a layman’s perspective, the nutrition division also seems to have very different production infrastructure and supply chains than the company’s other divisions. For example, the nutrition division sells food products with a limited shelf life and also some food items that need continued cooling after production, which require relatively complex supply chains. But the large difference here is that the nutrition segment simply performed well financially, and that is likely to make the lower levels of synergy with the other divisions more easy to overcome.

An additional benefit of the ice cream exit is the further insulation of Unilever from the – sometimes controversial – political statements of Ben & Jerry’s. These statements have in some cases led to boycotts from investors and US states. The Ben & Jerry’s inclusion in Unilever might have indirectly led to a lower valuation of the company’s stock through the years. Whether you agree with Ben & Jerry’s statements or not is irrelevant; the fact that it led to a not negligible chunk of people and institutions boycotting Unilever was negative from an investor’s perspective.

I do not assume that the Ben & Jerry’s saga has been an important item for Unilever while weighting its restructuring plans. But it cannot be denied that it is an added benefit of the ice cream exit to get rid of an outspoken subsidiary that has likely been a drag for the valuation of an entire consumer goods giant. Although Unilever is trying to spin off the ice cream business as a single entity, I would not be very surprised if Ben & Jerry’s would be separated from this new entity eventually. I could imagine Unilever selling the ice cream business without B&J to private equity while making B&J public, but this is pure speculation.

The entire restructuring plan of Unilever is looking much more ambitious than I thought it would be a couple of months ago. Although some analysts warned that the benefits of the exit of the ice cream market and the company’s restructuring might not be seen until 2026, if the market recognizes that the plans are likely to bear fruit, this will be beneficial to the company’s share valuation much earlier.

Takeaway

As I argued in my Unilever article from December last year, Unilever seems quite cheap at the moment (the stock’s price hasn’t changed much since then), and I still believe that the stock is a solid buy for today’s price. While the market received Unilever’s announcement that the company is planning to split off its ice cream division in a positive way, I am a bit skeptical about the possibility of it to quickly lead to positive results. There seems to be a discrepancy between the company’s plan to focus on its ‘power brands’ and splitting off an entire division which likely includes some of these power brands. But I have shown in my article that the ice cream division has relatively underperformed the other business areas of Unilever over the last couple of years, and I believe the decision to split it off is an intelligent one in the long run.

Unilever’s restructuring plan looks to be shifting into a higher gear with the recent press release, and this plan appears to bear the mark of Nelson Peltz, as it seems that Unilever is moving closer to the direction of the playbook he used at Procter & Gamble (PG). Unilever remains a solid company with a good and safe business trading at an attractive share price. My rating for the company continues to be a buy. I own Unilever shares myself, and it has been one of the largest positions in my portfolio for years.

In my previous article, I mentioned that I believed a forward PE ratio of 19 to be a fair valuation of the company in the short term, especially since many of the company’s close peers are trading for much higher valuations, like for instance Procter & Gamble, Nestlé (OTCPK:NSRGY) and Colgate-Palmolive (CL). At the moment, Unilever’s forward PE is 17.3 and the company is trading for almost exactly $50 per share. This would mean that I think that Unilever’s stock has short-term potential to rise to a value of $55, which would correspond to a PE ratio of 19. This is slightly higher than my previous target of $53, and the difference is caused by Unilever’s enhanced guidance, leading to a lower forward PE ratio.

So I believe that Unilever has a short-term upside potential of about 10 percent, which is not huge, but Unilever is a solid company that seems to have relatively limited downside risk. In the longer term, the company could deserve an even better valuation, especially if the restructuring plans bear fruit and lead to efficiency improvements. I believe the ice cream exit is only the first and most eye-catching step of the company’s restructuring that could well make Unilever’s relative underperformance compared to its peers a thing of the past.

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