The structure of the proposal for Kerry Co-op to buy Kerry Dairy Ireland means that the value of Kerry Group plc shares could have a significant effect on the amount of money which will have to be borrowed to finance the deal.

Under the terms outlined by both parties, the co-op will use 15% of its holding of Kerry plc shares as part of the purchase price - with the balance of the initial purchase price funded by borrowings.

The remaining 85% of the plc shareholding will be given back to the co-op’s A, B and C shareholders.

The difficulty with this is that the value of Kerry plc shares changes from day to day in the market. The 15% stake was valued at €251m on the day the proposal was announced.

However, for every one euro change in the value of Kerry shares in the market the value of the 15% stake moves by €2.9m.

The more Kerry shares are worth, the higher the value of the 15% stake and the lower the amount of debt the co-op will have to take on, which in turn will mean lower interest payments in future – and more money available for investment or to pay farmers for milk.

Price drop

Conversely, a drop in the share price of Kerry Group would increase the amount of borrowing which would have to be made to reach the €350m target.

The day after the Irish Farmers Journal first reported details of the proposal the value of Kerry shares rose by almost €4, have increased the value of the 15% stake to around €263m However, since then it has dropped below €86 (See Figure 1) which puts the 15% at €246m.

That’s a €18m move in a matter of days.

For Kerry Co-op, the key measure will be the average value of the shares in the 10 days before the deal is closed as that will be the one used to calculate the amount of borrowing needed.

That is expected to come around the end of January, the same time as the US gets its new president.

The drop in the value of Kerry shares in recent days was coincidental with the announcement of Robert Kennedy Jr. as Donald Trump’s pick for US health secretary.

While Kennedy’s anti-vaccination views caused the value of some pharma shares to drop considerably, Kennedy also appears to have strong views on food additives.

He has repeatedly referred to ultra-processed foods as “poison”.

The problem for Kerry is that its core business is creating ingredients for foods which would be considered to be highly processed. In 2023 55% of Kerry’s Taste and Nutrition’s €6.96bn in revenue was generated in the US.

Under the deal agreed between Kerry Group and Kerry Co-op there is a clause which will allow for a potential adjustment in the deal “in the unlikely event that there is a material adverse move” in the value realised for the shares.

A spokesperson said that for this mechanism to be triggered, the price of Kerry Group plc shares would have to fall to levels not seen for many years.

For a low-margin business like dairy processing keeping debt levels to a minimum is always a key goal.

If debt is allowed to rise too much, then a processor can quickly find itself in a very difficult position – one only has to look at Tipperary Co-op for a recent example of the problems too much debt can cause.

As it stands right now, the Kerry deal would leave the operation with just under €100m of debt at birth.

Taking the average of EBITDA earnings for Kerry Dairy Ireland over the past four years, that gives a debt-earnings ratio of approximately 1.42 times, which is certainly nothing to be scared of.

Even if Kerry shares were, due to circumstances beyond its control, to drop back to the lowest level of 2024, the debt ratio would only grow to 2x the four-year average earnings – in line with where the new Arrabawn Tipperary Co-op will be starting life.

The new Kerry operation will also start life with a bill for another €150m which will have to be paid sometime over the next decade in order to buy out the balance of the joint venture from Kerry Group.

Again, in the proposal, there is a chance of getting a revaluation of the deal should earnings fall below agreed targets for the next two years.

However, even allowing for some growth in EBITDA over the coming years, it is clear that the new operation will have to put paying down debt as its key goal over the next five years because as soon as it gets on top of the €100m it has spent on the purchase another €150m of debt will arrive.