Hansson Private Label, Inc.: Evaluating an Investment in Expansion

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HBS Professor Erik Stafford, Illinois Institute of Technology Adjunct Finance Professor Joel L. Heilprin, and writer Jeff DeVolder prepared this

case specifically for the Harvard Business School Brief Case Collection. Though inspired by real events, the case does not represent a specific

situation at an existing company, and any resemblance to actual persons or entities is unintended. Cases are developed solely as the basis for

class discussion and are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management.

write Harvard Business Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. This publication may not be digitized,

photocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.

ERIK STAFFORD

JOEL L. HEILPRIN

JEFFREY DEVOLDER

Hansson Private Label, Inc.:

Evaluating an Investment in Expansion

Introduction

On a frigid Sunday night in late February 2008, Tucker Hansson pored over a proposal developed

by his firm’s manufacturing team. It called for investing $50 million to expand production capacity at

Hansson Private Label (Hansson or HPL). For Hansson, a private company, this would be a

significant investment. The company had not initiated a project of that magnitude for more than a

decade, and the expansion wasn’t without significant risk. It would be likely to double HPL’s debt

and to greatly increase customer concentration. This was a critical juncture for the firm Tucker

Hansson had carefully built over 15 years. He wondered whether the return on investment would be

large enough to justify the effort and risk. He also wondered about the best means of evaluating the

potential investment.

HPL manufactured personal care products—soap, shampoo, mouthwash, shaving cream,

sunscreen, and the like—all sold under the brand label of one or another of HPL’s retail partners,

which included supermarkets, drug stores, and mass merchants. The firm, whose sales had grown

steadily over the years, generated $681 million in revenue in 2007.

Three weeks earlier, HPL’s largest retail customer had told Hansson that it wanted to significantly

increase HPL’s share of their private label manufacturing. Given that HPL was already operating

near full capacity, it would need to expand to accommodate this important customer without

“cannibalizing” a significant portion of HPL’s existing business. The rub was, the customer would

commit to only a three–year contract—and it expected a go/no–go commitment from Hansson within

30 days.

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4021 | Hansson Private Label, Inc.: Evaluating an Investment in Expansion

2 BRIEFCASES | HARVARD BUSINESS SCHOOL

Although he was worried about risk, Hansson was equally invigorated by the prospects of rapid

growth and significant value creation. He knew of numerous examples of manufacturers, both in

private label and branded businesses, who had risked their future by locking in a strong relationship

with a huge, powerful retailer. For many, the bet had delivered a big payout that lasted for decades.

Hansson’s employees had completed their fact–gathering and provided a multifaceted analysis of

the proposed project, which he now held in his hands. The time had come to do a final analysis on his

own and make a decision.

Company Background

HPL started in 1992, when Tucker Hansson purchased most of the manufacturing assets of Simon

Health and Beauty Products. Simon had decided to exit the market after struggling for years as a

bottom–tier player in branded personal care products. Hansson was a serial entrepreneur who had

spent the previous nine years buying manufacturing businesses and selling them for a profit after he

improved their efficiency and grew their sales. He bought HPL for $42 million—$25 million of his

own funds and $17 million that he borrowed—which was (and remained) the largest single

investment Hansson had ever made. Hansson was seeking to capitalize on what he saw as the

nascent but powerful trend of private label products’ increasing their share of consumer–products

sales. Although the concentration of his wealth into a single investment was risky, Hansson believed

he was paying significantly less than replacement costs for the assets—and he was confident that

private label growth would continue unabated.

Hansson’s assessment of private label growth prospects proved to be prescient, and his

unrelenting focus on manufacturing efficiency, expense management, and customer service had

turned HPL into a success. HPL now counted most of the major national and regional retailers as

customers. Hansson had expanded conservatively, never adding significant capacity until he had

clear enough visibility of the sales pipeline to ensure that any new facility would commence

operations with at least 60% capacity utilization. He now had four plants, all operating at more than

90% of capacity. He had also maintained debt at a modest level to contain the risk of financial distress

in the event that the company lost a big customer. HPL’s mission had remained the same: to be a

leading provider of high–quality private label personal care products to America’s leading retailers.

(See Exhibit 1, which presents HPL’s historical financial statements.)

The Market for Personal Care Products

The personal care market included hand and body care, personal hygiene, oral hygiene, and skin

care products. U.S. sales of these products totaled $21.6 billion in 2007. The market was stable, and

unit volumes had increased less than 1% in each of the past four years. The dollar sales growth of the

category was driven by price increases, which were also modest, averaging 1.7% annually during the

past four years. The category featured numerous national names with considerable brand loyalty.

Branded offerings ranged from high–end products such as Oral–B in the oral hygiene category to

lower–end names such as Suave in hair care. Private label penetration, measured as a percentage of

subsegment dollar sales, ranged from 3% in hair care to 20% in hand sanitizers. (Exhibits 2 and 3

present data about private label sales and market share.)

Consumers purchased personal care products mainly through retailers in five primary categories:

mass merchants (e.g., Wal-Mart), club stores (e.g., Costco), supermarkets (e.g., Kroger), drug stores

(e.g., CVS), and dollar stores (e.g., Dollar General). As a result of significant consolidation and growth

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in retail chains over the past 15 years, manufacturers of consumer products depended heavily on a

relatively small number of retailers that had a large national presence. To survive in the personal care

category, manufacturers had to persuade large chains to carry their products, provide adequate and

highly visible shelf space, and cooperate with product promotions. Many consumer–goods companies

found it increasingly difficult to do so, as roughly 80,000 new products were launched each year,

creating intense competition for shelf space.

The Private Label Industry

With private label brands, retailers rather than manufacturers controlled the production,

packaging, and promotion of the goods. Although some large retailers had integrated vertically and

owned the manufacturing facilities for their private label products, most retailers purchased their

goods from third–party manufacturers. Some manufacturers produced private label products in

addition to their branded goods (e.g., Kimberly–Clark), whereas others (e.g., Procter & Gamble) did

not produce any private label products.

Historically, retailers had carried private label goods to offer consumers lower–priced alternatives

to national branded goods. Over time, quality improvements in private label goods and their

packaging led to increased acceptance by consumers. Acceptance was so widespread that 99.9% of

U.S. consumers purchased at least one private label product in 2007, according to AC Nielsen. This

greater acceptance led private label sales across all product categories to exceed $70 billion in 2007.

Retailers had driven, and still drove, these increases in consumer acceptance. They could increase

their profits by capturing a greater share of the value chain than they did with branded goods, on

which manufacturer profits per unit could be twice those of the retailer, especially if the brand was

well known (e.g., Crest toothpaste). With private label goods, retailers’ cost of goods was as much as

50% lower than with branded products. Given the reduced cost, retailers could double their profit per

unit sold despite lower selling prices. Gaining further consumer acceptance of private label goods

and prices remained a huge opportunity for retailers, as these goods constituted less than 5% of sales

in many product categories. In the $21.6 billion personal care category, private label products

accounted for $4 billion of sales at retail (less than 19%), which translated to $2.4 billion in wholesale

sales from the manufacturers. Hansson estimated that HPL had a little more than a 28% share of that

total (see Exhibit 4, which shows HPL’s sales into its retail channels).

Investment Proposal

The investment proposal in Hansson’s hands included the following elements:

Cost Components

Amount

Est. Life

Deprecation

Facility Expansion

$10,000

20 yrs.

$ 500

Manufacturing Equipment

20,000

10 yrs.

2,000

Packaging Equipment

15,000

10 yrs.

1,500

Working Capital(1)

12,817

0

Total Investment

$57,817

$4,000

(1) The increase in working capital is not expected to occur up front at the time of the initial investment. It is assumed to take

place throughout the year and should be considered as part of the 2009 cash flows.

Note: Working capital is defined as accounts receivable plus inventory less accounts payable and accrued expenses. At the end

of the project, working capital will be returned in an amount equal to accounts receivable less accounts payable.

This document is authorized for use only in Prof. Samveg Patel’s Corporate Finance / PGDM at Management Development Institute – Gurgaon from Jan 2023 to Apr 2023.

4021 | Hansson Private Label, Inc.: Evaluating an Investment in Expansion

The team that developed the proposal was led by Robert Gates, HPL’s Executive Vice President of

Manufacturing. They found the investment attractive because the additional capacity would allow

HPL to expand its relationship with its largest customer (whose sales were growing in the U.S. and

abroad) and generate an acceptable payback. The expansion would also create the opportunity to

grow HPL’s other customer relationships. Moreover, it might change the competitive landscape.

Virtually all unit growth came from private label penetration gains that, although steady, were too

modest to support significant expansions by multiple producers. Knowing this, HPL’s competitors

might be deterred from expanding their production capacity in HPL’s personal care subsegments—

especially since HPL’s announcement would be supported by a multiyear contract with a powerful

customer.

However, the team acknowledged that the project presented risks unlike any that HPL had

previously encountered. First, making this level of investment and incurring the associated debt

would significantly increase HPL’s annual fixed costs and its risk of financial distress should sales

fall, costs rise, or both. Second, the sales that would support the capacity growth would come, at least

initially, from what was already HPL’s largest customer. Although HPL had a long and positive

relationship with the customer, the demand could disappear at the end of the initial three–year

contract.

Final Steps Toward a Decision

The annual capital planning process took place during an all–day working session hosted by

Tucker Hansson each October. In the meeting, Hansson and his staff, including the managers of each

facility, reviewed the capital requests and the related scoring prepared by CFO Sheila Dowling. They

agreed on a prioritization of the projects, discussed the trade–offs of choosing various projects over