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Contents under pressure

15 December 2011 By Jeffrey Goldfarb

Procter & Gamble didn’t crunch the details on its Pringles partner adequately. Troubles escalated for Diamond Foods, the agreed buyer of the chips brand, on Thursday as the Securities and Exchange Commission initiated a probe into its accounting on the heels of the snack food company’s own internal inquiry. The scale of the issues being investigated suggests the consumer giant missed some warning signs.

Everything looked crisp back in April when the $2.4 billion transaction was announced. Diamond shares soared as it appeared to fulfill ambitions to grow from a walnut co-operative to a global player in salty treats. For P&G, a craftily-structured deal allowed it to finally exit the food business.

Things began crumbling in September amid growing questions, from Breakingviews and others, not only about the accounting treatment of payments to growers now under the microscope but other oddities involving the company’s finances and disclosures. Investors bet against Diamond shares. In November, the deal was put on hold.

It’s hard to blame P&G and its advisers – Morgan Stanley and Blackstone – for not seeing six months in advance that Diamond would make suspicious payments to walnut suppliers. And Diamond also may ultimately be vindicated of any wrongdoing. But accounting sloppiness is often a symptom of larger governance and control problems. In any event, P&G’s responsibility to its shareholders, who will own stock in the newly merged Diamond-Pringles, didn’t end in April.

The $180 billion consumer products group had less incentive than, say, short sellers, to invest extra time and money into a forensic scrubbing of Diamond after the deal was signed. Moreover, gathering non-public information about Diamond could have created a messy conflict with any related confidentially agreements it signed.

This leaves an impression that P&G’s concern with tax efficiency outweighed a desire to more thoroughly understand Diamond. The complex reverse Morris Trust structure being used to unload Pringles erases P&G’s obligation to Uncle Sam, which is nice for shareholders. And P&G is a master of the format, having used it twice before. Ultimately, the Diamond deal offers a simple M&A lesson for corporations everywhere: better know thy partner.


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