425W
ith future volume growth in North
America and Western Europe lim-
ited to 3 percent at most, executives at
Bestfoods(now a unit of the Anglo-Dutch
conglomerate Unilever) decided to look
for more promising markets. Whereas
other food manufacturers were hesitant to take the international plunge, Bestfoods took its popu-
lar brands, such as Hellman’s/Best Foods, Knorr, Mazola, and Skippy, where the growth was—
emerging markets like Latin America, where the company could grow at a rate of 15 percent a
year. At the time it was acquired by Unilever, Bestfoods derived about 22 percent of its revenues
outside the United States and Western Europe, producing mayonnaise, soups, and other foods for
110 different markets at 130 manufacturing plants worldwide.
Bestfoods’ international expansion succeeded because the company developed ways to
incorporate the risks and rewards of its foreign investments into project analyses. These risks
included exchange rate and political risks, as well as tax and legal considerations and strategic
issues. First, it increased its familiarity with the foreign market by partnering with other compa-
nies whenever possible and by developing local management and experience. From this knowl-
edge base, Bestfoods was willing to take calculated risks. Working with consultants Stern Stew-
art, developers of the economic value added (EVA®) model, the company created its own
analytical model to set discount rates for different markets.
Some companies attempt to quantify the risk of foreign projects by arbitrarily assigning a
premium to the discount rate they use for domestic projects. Executives who rely on this subjec-
tive method may overestimate the costs of doing business overseas and rule out good projects.
Unlike these companies, Bestfoods took the time to develop specific costs of capital for interna-
tional markets. To incorporate the benefits of diversification for a multinational company like
Bestfoods, the company adapted the capital asset pricing model (CAPM). The model factors in
elements of economic and political risk to obtain the country’s risk premium and develops betas
for each country on the basis of the local market’s volatility and its correlation to the U.S. market.
For example, the high volatility of Brazil’s market has a low correlation to the U.S. market, so the
country beta was .81. With the risk-free rates and country betas, Bestfoods could calculate local
and global costs of capital.
This more sophisticated approach gave Bestfoods the confidence to pursue an aggressive
international strategy that increased shareholder value and resulted in Unilever offering a sub-
stantial premium to acquire the company. In this chapter we’ll look at other techniques that com-
panies use to incorporate risk into the capital budgeting process.
BESTFOODS
BESTFOODS’ RECIPE
FORRISK