Mismanagement and labor unions drove Hostess Brands into bankruptcy. Now the company is worth $2 billion again

“What a hole!” is the first thing that comes to mind when you step into the flagship Hostess Brands confectionery factory in Emporia, Kansas. The former headquarters of the company that produces such popular sweet snacks as Twinkies and Cup Cakes throughout America is a suite of half-empty rooms with worn, oatmeal-colored linoleum and leak-stained ceilings. Randomly selected pieces of office furniture complement the overall picture of desolation. After spending about three minutes here, you are filled with gratitude to the person who hung a sign on the door that entry with firearms into the premises is prohibited.

This gloomy factory outbuilding is a remnant of the so-called old Hostess, a company that went out of business in 2012; it was ruined by debt, exorbitant pension payments and poor management. But by hiding your hair under a special net, you can enter the territory of the renovated factory. And it will immediately become clear why Dean Metropoulos, who has more than once revived once famous brands from the ashes, senior partner of the Apollo Global investment fund Andy Javar, and Kansas Governor Sam Brownback, came here.

The new factory is bright and clean. Orderly rows of Twinkies donuts march on the $20 million Auto Bake line like Russian soldiers in a May 9th parade. The yellow “hands” of robots, which would look more at home on a Tesla assembly line, rhythmically pack ready-made snacks. The factory employs 500 people, they produce 1 million donuts a day, 400 million a year. This is 80% of Hostess’s total production - under the “old regime”, this is what 14 factories with a staff of 9,000 people could bake. And production efficiency will continue to improve: Metropoulos and Jawar have just installed a second Auto Bake line. The governor had just arrived to cut the ribbon.

Food industry symbol

The main thing is not the ribbon, but the revival of one of the American idols. The closure of Hostess caused culture shock in the United States and signaled the dire state of American industry. Hostess endured two bankruptcies and five CEOs in a decade, and the 150-year-old company died on November 16, 2012, when the bakers union staged an all-American strike. It left behind 36 factories, 5,600 delivery routes and 19,000 jobs, causing national mourning not only for a beloved brand, but also for the state of affairs in the country.

But someone probably thought that Hostess got what she deserved. After all, its products—preservative-laden calorie bombs whose recipes read like a chemistry textbook—do not fit into the new food traditions that rely on farmers' markets rather than factories. It looked like Hostess's product, a remnant of the tater tot era that nutritionists would like to forget like a bad dream, had finally reached its expiration date.

But while Hostess's fatty donuts and cupcakes have been banned from health food stores, they have something that local organic foods and whole grain bars lack: a multimillion-dollar fan base.

“The brand awareness was enormous,” says Jawar. “But it’s not every day that you have the opportunity to acquire a national brand that has been around for over 80 years and was generating billions in revenue before bankruptcy.” And they bought it, paying $410 million for the brands and promising to invest another $250 million to revive the business. Two years later, the partners are celebrating their victory, and the company's value could reach $2 billion. “Their business concept has worked wonders, they have made Hostess one of the most efficient and profitable companies in the food industry,” says Joseph Gatto, a partner at Perella Weinberg. became an intermediary in this transaction.

Donut legend

How do they do this? They selected the most valuable assets, modernized production and distribution, doubled the shelf life of products and capitalized on the unique place that Hostess products still occupy in popular culture. “People come up to me and thank me for bringing Twinkies back to them,” says Metropoulos, who previously oversaw the Bumble Bee Tuna, Chef Boyardee and Pabst Blue Ribbon beer brands. “But no one thanked me for returning Vlasic canned vegetables to him.”

The Hostess story is not exactly a sweet one. The company was founded in 1849 when Ward Baking Co. opened its first store in Lower Manhattan. Ward gradually acquired regional players and in 1925 changed its name to Continental Bakeries. Around the same time, Taggart, the manufacturer of Wonder Bread, was purchased. Twinkies appeared in 1930, in a sense, a product of the Great Depression: James Dewar, who worked at a factory in Chicago, began making them in the capacity intended for strawberry shortcakes, so that the equipment would not be idle after the end of the strawberry season.

Twinkies were originally filled with banana cream, but during World War II there was a shortage of bananas and they had to replace it with vanilla.

Advertising on the popular TV show Howdy Doody and in issues of Batman comics made these donuts one of the cultural staples of the post-war era.

And then there's this murder! When Dan White murdered San Francisco Mayor George Moscone and city councilman and gay rights activist Harvey Milk in 1978, his lawyer argued that his overindulgence in sugary and fatty foods contributed to his insanity. This was the first time the “Twinkies defense” was used in court practice.

Donut Diet

By that time, the company was owned by the New York conglomerate International Telephone & Telegraph (ITT), which at one time invested in a company that made military aircraft for the Nazis. He bought Hostess in 1968, in what is called a heap, in addition to the Avis car rental service, Sheraton hotels, South American telecoms and a naval weapons manufacturer. In 1984, ITT divested itself of Hostess, selling it for $475 million to pet food maker Ralston Purina. She, in turn, sold it to Interstate Bakeries in 1995 for $560 million. As a result of this transaction, the largest bakery manufacturer in the United States was created with sales of $3.2 billion, 56 factories, 1,250 of its own stores and 10,500 delivery routes.

But this business was already running out of steam. Sales fell as healthy eaters limited themselves in carbohydrates - the Atkins diet excluded donuts and cakes. In October 1998, the decline in sales provoked a one-time drop in the share price by 25%. Meanwhile, pension contributions and commodity prices were rising. Competitors improved production and switched to distribution through wholesale warehouses, while Hostess repaired old equipment and, losing money, continued to distribute its products to stores itself. By the spring of 2004, the company's debt exceeded $700 million, and in September Interstate began a reorganization and financial recovery procedure (soft bankruptcy in the United States), and the company remained in this state for another five years. During this time, staff were cut from 32,000 to 25,000, eight factories were closed, and the union was forced to accept significant cuts in pay and benefits.

Interstate emerged from bankruptcy in early 2009 with a new owner, New York investment firm Ripplewood Holdings, which paid $130 million for control, and a new name, Hostess Brands Inc. This is the end of the update. It did not address high pension payments (spending on retired employees exceeded spending on working ones), inefficient logistics and high debt load (hedge funds Silver Point and Monarch helped pay off most of the $360 million in debt on senior loans). “How many companies have come out of bankruptcy with higher debt than they previously had? — comments W. Todd Roberson, professor of the School of Business. Kelly, who studied the problems of Hostess. “They just wasted time without addressing the company’s core problems.”

During the recession, the company's position did not improve. By January 2012, Hostess was again undergoing a reorganization and financial turnaround, and by the summer it was posting an operating loss of $1.06 billion on revenue of $2.47 billion and debt of $2.5 billion. Pension payments exceeded $930 million a year. Management called on the bakers' union for new concessions. The union called for a strike. For several weeks, Hostess became the talk of the town: the company was talked about in connection with America's technological backwardness, the obsolescence of traditional factory production, and the threat of obesity to Americans.

In this situation, hedge funds were no longer interested in rehabilitating the company; they wanted their money back. Hoping to recoup at least part of the $360 million spent, creditors insisted on a hard version of bankruptcy - liquidation of the company and sale of property.

Serial marketer

When Andy Javar heard about Hostess' liquidation, he immediately called Dean Metropoulos, a 68-year-old specialist in turning struggling food brands into tidy businesses. Over the course of 35 years, he restored dozens of businesses, earning the title of “Mr. Place on the Shelf” from Forbes and earning a fortune of $2.2 billion. He was destined to be involved in food; his father was a farmer in Greece, but when Dean was 10 years old, he moved with his family to America, to Massachusetts. Metropoulos received a general and business education from Babson College, after which, while already working at General Telephone & Electronics (GTE, which later became part of Verizon), he decided to get a degree in finance from Columbia University. But he realized that real business was more interesting to him than books, and moved to the European division of GTE. “I traveled 30 days a month and worked in 75-80 countries,” he says. He was involved in telecoms in Mexico, Argentina and Iran, lighting in Italy, television tubes in Germany, joint ventures in India, Japan and Australia.

At 32, he purchased his first company in America, a cheese manufacturer in his wife's home state of Vermont. Then he bought two more cheese companies and shook up their business. Thanks to cheese, he realized an important thing: “People have a special attachment to brands in the food market; not in the same way as, for example, a brand of light bulbs.” In the 1990s, he joined forces with the Dallas private equity firm Hicks, Muse, Tate & Furst and began buying up troubled food makers. In 1996, he used Hicks funds to acquire International Home Foods and then used the company as a platform to acquire classic brands such as Dennison's Chili, Bumble Bee Tuna and Chef Boyardee.

His sons Evan and Daren joined the family business early. According to Metropoulos, as children they were kicked out of stores for rearranging family brand products on the shelves, and during their teenage years they managed to convince their father that the Chef Boyardee brand was worth promoting through the World Wrestling Federation championships. “It changed the image of the brand,” Metropoulos recalls with a smile. “We made commercials with wrestling stars like Mankind and Steve Austin throwing big meatballs to hungry teenagers. Dwayne Johnson sometimes spent the night at our house." About 10 years later, Evan and Daren convinced their father to buy Pabst, a brand of beer popular with hipsters. The sons became the general directors of this company. The family sold it to Oasis Beverage in 2014. The transaction amount is estimated at $750 million, the value of the asset has tripled in three years.

Metropoulos and 43-year-old Jawar, who is responsible for Apollo's retail and consumer markets transactions, first met in 2011 at the instigation of banker PJ Moses of Rothschild. They had already looked closely at the potential of companies such as Sara Lee, Morningstar Food and Del Monte several times, but only now decided on a joint deal. It turned out that both of them had considered buying Hostess in the past, but abandoned the idea because the legacy was too heavy. “The company was organized in such a way that it would be difficult to transform. says Metropoulos. “I assessed its structure and decided that I didn’t need such baggage.”

But the liquidation procedure cleared the assets of past problems. Yes, the company was gone, but so were pension expenses, union agreements and debts. The brands were no longer linked to each other, and investors were able to choose the best ones. “We didn’t have to take over all the factories and shipping routes,” says Metropoulos. “We didn’t have to accept all the problems that have accumulated in the company over its history.”

Everything is new

Metropoulos and Jawar targeted the sweet baked goods business, which had the most recognizable brands (in addition to Twinkies and CupCakes, Ding Dongs, Ho-Hos, and Zingers) and had the longest shelf life. They signed non-disclosure agreements with Perella Weinberg Bank, which is handling the Hostess bankruptcy, examined mountains of documents, and visited factories in California, Kansas, Illinois and Indiana. They drew up a business plan from scratch and offered $410 million for the assets they were interested in, which was 4.1 times the earnings before interest, taxes, depreciation and amortization they planned to earn in the first year of operation. Another $250 million was spent on restoring the company. The costs of canceling contracts and legal support of the transaction amounted to another $20 million - a total of about $680 million. Apollo invested about $140 million of its own money, Metropoulos - $40 million, and they raised another $500 million in the form of loans.

They expected that other bidders would take part in the auction, but there were no takers. “It was a big risk. It was a rare case that there was nothing left of a company, being sold with no employees, empty factories and no working capital, says Jawar. “But we looked at it the other way: this was an opportunity to acquire great brands and essentially reinvent them.”

The new owners had to rebuild Hostess, which is no easy task. The deal was closed in April 2013. For their $410 million, Metropoulos and Apollo received confectionery brands, recipes and factories. They had no employees, no marketing, no distribution channels, no guaranteed shelf space; the factories did not even have supplies of sugar, cocoa and flour. By that time, Twinkies and Ding Dong had been out of stock for six months. Moreover, the new business plan assumed the restoration of the previous production volume with a significantly smaller number of employees. The old Hostess's confectionery division had 9,000 employees and 14 factories that generated just under $1 billion in annual baked goods revenue. The new plan called for a workforce of 1,000 people and five factories (after some time the number was reduced to three because one was sold and one closed). William Toler, who had long worked in Metropoulos’s team, became the CEO.

What did Metropoulos do? First, he spent $110 million to modernize factories, from automating production (installing new Auto Baker machines worth $20 million) to replacing ventilation. “We need to improve the working conditions, fix the cracks in the floors and generally improve the atmosphere,” says Metropoulos. “This affects employees’ self-esteem, their energy and work culture.” The next step was the launch of a $25 million SAP software system for managing inventory and logistics.

The biggest problem was delivery. Because Wonder Bread only had a shelf life of a few days, the old Hostess had 5,000 routes that could directly ship product to each store several times a week. This was very expensive (each route requires a driver, truck, fuel and insurance) and consumed 36% of revenue. Moreover, the system limited the number of stores to which products were supplied. Gas stations and convenience stores were too small to stop along the route, and Hostess merchandise did not reach them.

Since the new Hostess only produces pastries and not bread, Metropoulos redesigned the system. Switching to a centralized warehouse model saved money and made Hostess products available in more stores. But here's the problem: Twinkies, despite their reputation as cockroaches in the food kingdom that can survive floods, famines and nuclear war, actually only had a shelf life of about 25 days. And the central warehouse model meant that product could sit on shelves for up to two weeks, so even Twinkies could become stale.

Chemists managed to solve the problem. Metropoulos spent millions on research work with the help of Corbion Food Laboratory, which tweaked the composition of starches, oils and gums and finally established the acidity level at which Twinkies would not stale or lose color. The only task: adapt Twinkies to storage in the warehouse. While none of these ingredients would appeal to organic food activists, the team managed to make an indestructible snack even more indestructible. Shelf life has more than doubled to 65 days. Hostess switched to centralized warehouses. Delivery costs fell from 36% to 16% of revenue, and the number of retail outlets with the company's products increased significantly. “We now supply Wal-Mart, dollar stores, 100,000 convenience stores, vending machine operators and foodservice operators,” says Jawar. “There’s no reason why Hostess products can’t be sold everywhere candy is sold.”

Return of a Legend

In July 2013, less than four months after Metropoulos and Apollo took over the company, Twinkies returned to the market. As after the death of the company, news of its revival spread throughout the Internet, social networks and television programs. NBC's Today show aired a three-minute clip in which host Al Roker rode with a driver in a Hostess truck and delivered Twinkies to cheering fans. “When we saw Al Roker eating Twinkies on national television, we knew it was something special,” says Evan Metropoulos. “The free media coverage is incredible, they started publishing stories about us.”

To add fuel to the fire, Evan and Daren Metropoulos made videos of friendly celebrities like Will Ferrell, Snoop Dogg and Howard Stern hunting down Hostess. A huge countdown clock was installed in Times Square. Teams of promotions flooded college campuses and threw parties with Twinkies and Pabst beer, creating a huge amount of viral content for social networks. And the best marketing technique was the previous death of Hostess. Dean Metropoulos says, "I suspect that if Hostess hadn't shut down and we'd just acquired a running business, there wouldn't have been such a rush."

Fans flocked to stores. Demand has been so great that major retailers have waived the fees they typically charge brands for shelf space. Metropoulos and Apollo's business plan called for EBITDA of $100 million in 2014, but that figure reached $178 million. In light of this success, the $410 million paid to acquire Hostess began to seem insignificant: only 2.3 times EBITDA in an industry where company capitalization reaches 12 EBITDA. This year's EBITDA should be $200 million, and when compared to peers like Flowers Foods, Hostess should be valued at more than $2.5 billion. Subtract from that the $500 million in loans they took out to buy and rebuild the company, Metropoulos and Apollo, if all goes according to plan, will make $2 billion in just two years on its $180 million equity investment. “The Hostess transaction should be a case study in the complete turnaround of the business at Harvard Business School,” says Perella's Gatto.

Metropoulos does not comment on a possible exit from the company's capital and only says that a sale or an IPO are among the options being considered. But he and Apollo are already preparing for a deal, according to several sources. In early April, a presentation to potential investors comparing the company to Hershey's and Mondelez was sent to several major players, including Grupo Bimbo and Flowers. Metropoulos, meanwhile, is working on fancier versions of classic Hostess products, such as sea salt caramel and chocolate cake flavors. It's also trying to tap into new consumer groups, especially the fast-growing Hispanic market. And then at some point, when the Twinkies story is sure to be a triumph rather than a tragedy, he'll move on to the next poorly managed brand. “We've dealt with almost 80 different companies, and we've managed to fix almost everything,” he says. “It gives me the energy to take on a new company.”

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