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Wednesday, June 05, 2002

By Teresa F. Lindeman and Patricia Sabatini, Post-Gazette Staff Writers

The H.J. Heinz Co. marketing machine continued to roll yesterday as the Pittsburgh condiment company jumped in the Scooby-Doo Mystery Machine with its Snausages Scooby Snacks and games for pet owners.

Now if only Shaggy could solve the mystery of Heinz' declining pet food sales. While pet treats have done pretty well, sales of dog and cat food have been such a drag that analysts regularly suggest Chairman Bill Johnson abandon Fido and Fifi.

The company may be developing its own solution. Heinz is believed to be finalizing a plan to separate its pet food business from its StarKist tuna division, sources close to Heinz said.

Heinz also is thought to be close to a deal with Kraft Foods Inc., possibly involving co-branding of products or swapping one or more of the two companies' product lines. An announcement could come as early as June 13, the day Heinz is scheduled to release fiscal fourth-quarter results.

Although it wasn't clear what products the two global food companies might swap, speculation centered on Heinz picking up Kraft's Milk Bone brand dog treats unit.

Spokesmen for both companies declined comment.

Talk of a deal that would give the company more pet snacks was greeted with some wariness. The snack niche has done well enough that Heinz could benefit from bulking up there, said Ruairi G. O'Neill, an analyst with PNC Advisors in Philadelphia.

"I'm sure they would love to have Milk Bones," agreed Bill Leach, an analyst with Banc of America Securities.

Heinz, whose pet treat brands include Meaty Bone, Pup-Peroni and Pounce, has been looking to beef up its lucrative pet snacks business.

But Leach remains leery of the whole category. "I think most of us feel they should get out of pet food altogether."

Heinz has seen its sales dollars drop for the past two calendar years, with cat food down 4.5 percent in 2001 and dog food down 9.5 percent, according to market research firm Information Resources Inc.

Some blame changing consumer buying patterns in the choice between wet and dry food, while others see competition as the biggest issue in recent years. Procter & Gamble brought new marketing dollars into the fray when it bought Iams Co. in 1999. Then Nestle Holdings upped the ante by acquiring Ralston Purina in 2001.

Heinz, which has seen both its pet food and tuna businesses as trouble spots, made management and structural changes in both areas last year. Tuna has gone into pouches and become flavored, while in March, Heinz said it would attempt to improve the palatability of the pet foods.

Innovation has been the mantra for Heinz's efforts to bump up lagging sales, and not just in pet products. On the co-branding front, it has developed Boston Market frozen meals. And already this year, it has trumpeted its Mystery Ketchup, funky blue french fries and upside-down ketchup bottles.

At this point, however, analysts are waiting for direction.

Several weeks into fiscal 2003, which began in May, Heinz has yet to issue earnings guidance -- a delay some attribute to the fact it has a new chief financial officer, Arthur Winkleblack. During a conference call with analysts in March, Winkleblack said the company was reviewing strategy and not in a position to predict how it would perform in the year that ends in April 2003.

"Generally that's not a harbinger of good news," said Leach at Banc of America Securities.

Heinz, which has gone through two recent restructurings, has disappointed those hoping for more earnings growth. Leach said the company might want to consider following the example of other food companies, including Campbell Soup Co., which last year moved to overhaul the market's expectations by reducing its earnings base and its dividend.

That possibility was also raised by Credit Suisse First Boston analyst David C. Nelson, who in a March report predicted Heinz's core profits and margins could continue to decline.

Few analysts would be too surprised to see a deal with Northfield, Ill.,-based Kraft, which is the No. 1 branded U.S. food company and No. 2 worldwide behind Nestle. Kraft is nearly four times the size of Heinz, with annual sales of $34 billion vs. Heinz's $9 billion. Some of Kraft's major brands include Maxwell House coffee, Oscar Mayer meats, Nabisco cookies and crackers, Post cereals, Kraft salad dressings, Grey Poupon mustard and Altoids breath mints.

In the food business, acquiring and selling has been the norm in recent years. Heinz's recent acquisitions included Classico pasta sauces, Delimex Mexican foods, and Poppers and T.G.I. Friday's frozen snacks.

The company has been criticized by Wall Street for failing to pull off a big merger as the food industry consolidated around it.

In 1999, Heinz was close to a so-called merger of equals with Bestfoods, maker of Skippy peanut butter and Hellmann's mayonnaise, but the deal never went through. Shortly afterward, Bestfoods was acquired by European conglomerate Unilever.

Besides StarKist and its flagship ketchup, other Heinz brands include Bagel Bites, Smart Ones and Boston Market frozen meals, Heinz baby food, and Chef Francisco and Escalon restaurant products.