Hail the hollow tree

Prepared Foods, March, 1999 by Steve Dwyer

For three years, change - from LBO to IPO - consumed Keebler Foods. It's now recaptured that Elfin magic with a handful of new products and a lot of latitude to grow.

On a morning in late January 1996, with 10-below zero temperatures lashing the Chicago area, two food industry executives, David Vermylen and Sam Reed, leave their hotel and hop into a rental car to drive to the headquarters of Keebler Foods in west suburban Elmhurst, Ill.

Before firing the ignition, they stop to ponder the mess they've gotten themselves into: two guys from Florida and California, respectively, stuck in arctic Chicago to preside over an unceremonious event - the leveraged buyout of a growth-challenged company, Keebler. "As LBO officers, we were probably one level ahead of lawyers on the food chain," Vermylen laughs in recollection. "Sam and I turned and looked at each other and said: 'What the heck are we doing here?'"

A logical question, and one that has been emphatically answered three years later. Rudderless at the top and profitless at the bottom line, Keebler, which in fiscal 1995 lost $138 million on revenues of $1.6 billion under former parent United Biscuits, is today basking in a two-year run of success after a "rebuilding year" in 1996.

Almost 15 months after becoming a public company in January 1998, Wall Street remains entirely bullish on Elves. Keebler stock has been in "buy" mode practically from the outset (its share price on the NYSE trades in the high-$30 range and is on course to reach the mid-$40 range by year's end).

As it continues to squeeze costs out of its operation, Keebler's expected to produce average earnings growth of 13-14% over the next several years.

For the 1998 fiscal year, Keebler increased sales 7.8% and net income a robust 66.5%, paced by a fourth quarter that saw sales bloom by 14.7%. The powerful synergy between Keebler and Cheez-It brands - the latter of which came over in the 1996 acquisition of Sunshine Biscuit Co. - helped trigger the revival.

Keebler, the second largest cookie and cracker manufacturer in the U.S. with 1998 net sales of $2.2 billion, has prospered several ways.

* Keebler has, confirms Roger Kalinowski, vp of marketing, "unleashed the power of the Elves" through distinctive new products.

* Keebler has parceled out aggressive marketing' advertising and promotional programs that are striking at the very heart of the impulse-intensive cookie/cracker segment.

* The firm has developed new marketing and distribution programs for alternative channels that had once been barren, like convenience stores.

Andrew Lazar, an analyst with Lehman Brothers, a New York City investment firm that tracks Keebler, insists that "the old Keebler used price to compete instead of brand building." It's now just the opposite.

Keebler's focus on higher-margin items, integration of acquisitions and cost savings "make them poised for growth," says Lazar, noting that Keebler has "over delivered on all its benchmarks since going public."

The Road Back

When Sam Reed, who today serves as Keebler's president and CEO, and Vermylen, president of Keebler Brands, put the 1996 leveraged buyout in motion, they replaced the company's top management. They retained most existing employees from middle management on down, regarding them as assets.

Kalinowski, who has spent 25 years with Keebler, adds: "While there was the fear of the unknown with the LBO, we were ready to embrace change. With the proper leadership, we knew we could flourish again."

Vermylen, who for years competed against Keebler while running a West Coast company called Mother's Cake and Cookie, stresses that Keebler's bottom line was plagued by "too much excess capacity within its bakeries and its sales and distribution system."

They lived dangerously, too. Keebler paid an inordinate amount of attention to its salty snack segment. "We paid too much attention to this segment and got outgunned by FritoLay," admits Kalinowski. "It comprised so much of our focus that we forgot about cookies and crackers."

That focus returned amid the LBO. In eight weeks, Keebler reduced the number of corporate officers by one-third. It restructured the entire company, creating standalone business units and five multi-functional regional teams overseeing its 3,200-person sales and distribution system. It then acquired Sunshine Biscuit, which itself had lost money ($30 million in fiscal 1995), meaning Keebler assumed even more debt.

By the end of 1996, Keebler had completely integrated Sunshine's $450 million volume into Keebler's direct store delivery (DSD) system, and drained $120 million in excess costs from the overall business, says Vermylen.

The new regime then shored up top-line growth. However, given its high debt load, Keebler needed a new product strategy that "combined speed, discipline with a little bit of 'Elfin magic,'" says Vermylen.

Hollow Tree Fills Up

In 1997, Keebler implemented a back-to-basics philosophy that "if you're in a financial pinch, singles and doubles are okay - it's alright to think small," says Vermylen.