A sticky situation at Hershey

The failed Hershey-Cadbury deal in January has opened a new rift between top management of Hershey Co. and the Hershey Trust philanthropy that controls the chocolate company, according to observers and a company source with direct knowledge of the relationship.

This would be the second round of turmoil in three years between the trust, a sprawling philanthropic organization with prominent Republicans on its boards, and the candy company's top executives.

Wall Street analysts say that they don't know which direction the company is heading, and that they have seen this before.

Richard Lenny, the previous Hershey Co. chief executive officer, retired in 2007 in a dispute with the trust over his dealings with Cadbury in 2007, according to published reports. He was replaced by his chief operating officer, David West.

Now "the trust and David West weren't on the same page with Cadbury," said Samuel Weaver, a former Hershey executive who is a finance professor at Lehigh University. "They need to work on their relationship."

The $7 billion Hershey Trust was looking for a transformative deal that would quickly take Hershey bars and Reese's peanut butter cups to the global stage. Buying Cadbury would do that. The trust, according to sources, had arranged $19 billion in financing in late 2009, and trust board members met with Cadbury officials in October in the Stafford Hotel in London to pledge support for a combination.

West, meanwhile, has preached in presentations on Wall Street of incrementally growing the Hershey brands in overseas markets, as well as signing joint ventures and buying smaller companies. He had expressed concern about taking on too much debt in a big deal.

West declined to comment for this story, and trust spokesman Tim Reeves declined to comment on the relationship.

"We get mixed signals out of this company," said Jack Russo, senior consumer analyst with Edward Jones. "They should come clean. . . . There are a lot of inconsistencies."

B. Craig Hutson, bond analyst with the rating firm Gimme Credit, said, "The problem here is that you have a trust whose interest is not aligned with those of other public shareholders. They want the income stream and they want control, and control is the biggest thing. It puts them at a disadvantage and is not consistent with the best way to enhance shareholder value."

The Hershey Trust, indeed, is not the typical shareholder. It's a nonprofit charitable organization that owns golf courses, hotels, and amusement parks, in addition to an 80 percent voting control of the candy company.

Its entities employ about 13,000 in the Harrisburg area and the dividends from the for-profit ventures finance its main philanthropic mission - an 1,800-student school for poor children in the same town as the Hershey Co. headquarters. The trust estimates that one-third of the profits from Hershey candy sales directly support the school through stock dividends.

The trust functioned for decades without controversy. Then in 2002 a trust board negotiated to sell the chocolate company to Wm. Wrigley Jr. Co. Mike Fisher, who was state attorney general then and running for governor as a Republican, aborted the Wrigley sale and helped oust trust board members connected with it. Leroy Zimmerman, a former two-term Republican state attorney general, was appointed chairman of the new board with the goal of reconnecting the trust with the community.

Other Republicans joined Zimmerman on three paid boards connected to the trust. The boards are for the Hershey Trust Co., the Hershey Entertainment & Resorts Co., and the Hershey Co., the famed candy-maker.

Among the members on trust-related boards are former Pennsylvania Gov. Tom Ridge on the Hershey Co. board, former Pittsburgh Steeler and gubernatorial candidate Lynn Swann on the entertainment company board, and James E. Nevels, the former chairman of the Philadelphia School Reform Commission, on the Hershey Trust Co. and Hershey Co. boards.

Swann's role on the entertainment board has no direct bearing on the fate of the chocolate company but is part of the broader Hershey Trust structure that finances the school.

According to Robert Sitkoff, a Harvard law professor, Pennsylvania's state attorney general has unusually broad oversight powers over charitable trusts, particularly the Hershey Trust. "When the attorney general then runs for governor," he said, "politics inevitably gets injected into supervision of the trust."

Supporters say that the trust is now far more responsive to local concerns and that post-2002 trust boards brought a wealth of talent and skills to the philanthropic organization that controls the chocolate company and the other companies.

"You are talking about some of the most prominent Pennsylvanians getting involved in the administration of Mr. Hershey's trust," said Ernie Preate, who once regulated the Hershey Trust as state attorney general. "They are very intelligent and very good, conservative people. You will not see them making radical moves," he said.

Charles Gerow, a political consultant in Harrisburg, said, "It's fair to say that Leroy Zimmerman is at the pinnacle of influence in Pennsylvania. He is one of the most sought-after senior statesmen in the state."

But others say the changes have politicized the trust, and trust-related board positions are lucrative for those who hold them.

The boards pay $100,000 to $200,000 a year, although an individual who sits on more than one can earn more. Zimmerman, as chairman of the Hershey Trust Co. board and member of the candy and entertainment boards, earned $436,367 in compensation and retirement benefits, according to a nonprofit IRS filing for the year ended July 31, 2008.

John W. Schmehl, a partner with Dilworth Paxson L.L.P., said director fees on Hershey Trust-related boards has risen in recent years and the directors should forgo or return the fees to the trust so the money would "be available for the Hershey Trust's child-saving mission."

Reeves, the spokesman, said the trust periodically surveys the compensation practices at other nonprofits. "Board service on the Hershey Trust has a magnitude of responsibility and liability unlike other traditional nonprofit organizations," he said.

Reeves said that politics hasn't played a role in the trust and that Zimmerman was a logical choice to head it because he understood the workings of the Attorney General's Office.

"The trust's actions - whether you love them or hate them - are as obligations of the trust," Reeves said. "There is nothing partisan about the trust's obligation to serve needy kids. There is no political work to be done."

Reeves said there was a Pennsylvania Democrat on the Hershey Trust board: James Mead, who was an official in Gov. Milton Shapp's administration.

As for the company, Reeves said the trust was a "vigorous and tenacious advocate for creating value for all shareholders." The trust has stated publicly that it would maintain control of Hershey and that it would keep the company "rooted" in Pennsylvania, he said.

But the issues remain: how the trust and the company can get along, and how to bring Hershey Co.'s candy products to the global stage.

The trust and the company have looked for a transformative deal since the late 1980s. The company is No. 1 in the chocolate industry in the United States but No. 4 globally in candy-market share. Most of its potential merger partners are paired up and it will be facing a new bigger threat with Cadbury eventually being bought by Kraft.

"They are in a difficult spot," said Gimme Credit's Hutson. "There is always the risk when you are up against a much larger and better-financed competitor that you will be at their mercy for pricing and you won't be the category captain with the retailers."