Aw, Nuts! Diamond Foods Could Lose Pringles Deal

Diamond Foods (NAS: DMND) may have blown its biggest deal to date. The maker of Emerald nuts and Pop Secret popcorn recently ousted its CEO and CFO after an internal audit exposed improper payments to walnut growers. Diamond will need to restate the past two years of financials and it stands to lose a pending deal to buy the Pringles brand from Procter & Gamble (NYS: PG) . The stock plummeted more than 40% on the news. However, you have to wonder: How did investors not see this coming months ago?

By investors, I also mean P&G, which stood to gain $1.5 billion from the all-stock deal. In December, Procter & Gamble said they were still committed to closing the Pringles deal, despite Diamond having missed the deadline for filing its first-quarter earnings due to the ongoing investigation.

But P&G wasn't the only one with questionable risk management. The Wall Street Journal also reported in December that a KeyBanc analyst said there was no wrongdoing on the part of Diamond Foods. Months into the investigation, many investors still believed Diamond could be the ultimate value play.

About-face not likely
Unfortunately, this doesn't read like a turnaround story. In fact, Diamond will likely break the terms of its credit agreement following the restatement of 2010 and 2011 financials. Breaching its debt covenants would spike interest expenses -- making it even harder for the company to grow profits in the quarters ahead. Nevertheless, Keybanc analysts continue to believe Diamond's stock is a buy, saying the company's various businesses are together worth around $44, Reuters reports.

I remain of the belief that investors buying shares here are nuts (pun intended). Scandals rooted in potentially countless allegations of fraud tend to only get worse as more of the story unravels. Diamond can expect even more scrutiny from the SEC as well as the Justice Department. The likelihood of Diamond snagging Pringles to become the second-largest U.S. snack maker behind PepsiCo (NYS: PEP) is fading fast.

The scandal gives P&G multiple ways out of the deal; in fact, the company says it has other bidders interested in its Pringles brand. I'd like to see Pepsi add Pringles to its $13 billion convenient foods business. The chips brand would be a good fit for Pepsi as it invests in the future growth of its U.S. snacks segment. Pepsi recently announced plans to increase ad spending for 2012 to between $500 million to $600 million. The company also plans to throw $100 million into in-store displays and shelving designs.

The Diamond Foods story is still popping. Certainly more challenges lie ahead for the company. Would you buy shares here with hopes of a turnaround situation? I want to hear from you. Share your thoughts on the saga with me in the comments below.

At the time thisarticle was published Foolish contributor Tamara Rutter owns shares of PepsiCo. The Motley Fool owns shares of PepsiCo. Motley Fool newsletter services have recommended buying shares of Procter & Gamble and PepsiCo, as well as creating a diagonal call position in PepsiCo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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