Editorial: Financialization and its investor discontents

The US cereal and snack maker Kellogg’s has announced it will invest USD 70 million in unspecified manufacturing improvements, and investors are howling with rage. Reuters reported on November 3 (Kellogg cuts outlook after cutting too many jobs) that the company “Cut too many jobs in recent years, which has led to problems — including food safety issues — that it must now spend heavily to fix, sending its shares down nearly 7 percent.”

Kellogg’s CEO John Bryant, according to the article, “Said the company ‘cut deeper than it should have’ and is now reversing course to add people back into factories. He said the company is also improving employee training and interaction with suppliers.”

“That $70 million was a surprise to (Wall Street); but I think it was absolutely the right thing to do”, he added.

The article goes on to describe the conference call with investors, where analysts expressed shock and anger. An outraged Deutsche Bank analyst is quoted as asking “Why is it happening? And how come you didn’t recognize this, let’s say, nine, 10 months ago, when you’ve been around? It seems like the more rocks that are turned over, there’s more ugly stuff underneath. And it’s amazing that a company like Kellogg, with its reputation, is actually going through this.”

Neither the company nor the investors would be surprised if they read their own material and their concentration spans extended beyond the financial quarter. For years, Kellogg’s has been cutting back on investment, outsourcing production to non-union sites and contract manufacturers and generally cutting corners. A decade or more of dubious cost savings is detailed in the company’s annual reports, but the analysts never read beyond earnings per share. Cheerleaders at an investment and employment massacre, they’re now horrified at the blood on the floor.

In its regulatory filing for financial 1999, Kellogg’s cited reduced capital expenditure as one of the ingredients generating double-digit growth in earnings per share. “Buy”, said the analysts.

Fast-forward to the 2011 regulatory filing, which records 5 years over which capital expenditure, already at a historic low of 4.15% of net sales in 2006, declined to 3.82% in 2010.

The figures for reduced capital expenditure only tell part of the story. Another part – systematic outsourcing of manufacturing – is recorded in the increased expenditure under “noncancelable capital and operating leases”. Were it not for the statutory requirement to report on employment and the company’s pension obligations, employees would disappear entirely into “miscellaneous costs of doing business” – the accounting fate of “leased” workers.

Investors are amazed that the company has been reducing investment and cutting corners in manufacturing? In 2009 Kellogg’s proudly announced its new lean production system, K LEAN, which “Seeks to optimize the Company’s global manufacturing network, reduce waste, develop best practices on a global basis and reduce capital expenditures.” Predictably, product safety issues emerged from this “lean” food production system. Analysts were happy as long as the reports stayed out of the news, and Kellogg’s announced the umpteenth consecutive dividend increase. Unions warned of the safety consequences of layoffs, outsourcing and reduced investment, but no one was listening.

Now analysts are upset that 70 million dollars is going into plant and equipment – money which they consider belongs to shareholders. But seventy million is a drop in the ocean against the share buybacks the company gleefully reported for 2009, a year of product safety recalls:

“Our Board of Directors authorized stock repurchases of up to $650 million for 2009. During 2009, we spent $187 million to purchase approximately 4 million shares of common stock. The unused portion of the 2009 authorization, amounting to $463 million, was rolled over and is available to be executed against in 2010. The Board of Directors has authorized an additional stock repurchase program of up to $650 million bringing the total 2010 stock repurchase authorization to $1,113 million…”

In February 2011, 2011 listeria was detected in products produced at a non-union factory in Georgia. Analysts took no notice. It was the USD 70 million earmarked for investment and training – money which was rightfully theirs – which shook them out of their reverie.

Subordinating investment and employment to the demand for ‘shareholder value’ is sometimes described as ‘short-termism’. The Kellogg’s story shows how “short” has been compressed, from annual to quarterly to today’s share price. “How come you didn’t recognize this, let’s say, nine, 10 months ago?” Instant gratification requires amnesia. If you remember the last quarterly conference call, you weren’t there.