Comment: US food sector consolidation sees raising valuations
Increased M&A sees valuations rising
The dramatic M&A battle being played out in the US protein space comes as fresh evidence that food companies are willing to pay top-dollar for quality businesses in a consolidating sector.
It all began in mid-May, when Hillshire announced its own deal to acquire Bird's Eye maker Pinnacle Foods. While the company touted the operational and sales benefits that the deal would bring, the negative share price reaction would suggest that the market was never fully behind this tie-up, particularly given the high level of debt the group planned to take on to fund the acquisition.
Hardly a week later, Pilgrim's Pride made its hostile play for Hillshire and Hillshire's shares have since been filled with helium.
The ensuing takeover battle has prompted a surge in Hillshire's market capitalisation and supports management's original argument that separating Sara Lee into pure-play US meat and international coffee businesses would drive shareholder value. With its iconic brands and comparatively strong margin structure, the maker of Jimmy Dean sausages has proven a tempting - and digestible - morsel for two heavy hitters in the US meat category.
Pilgrim's Pride, which is majority-owned by Brazilian meat giant JBS, outlined the strategic rational underpinning the move. The firm believes that buying Hillshire would strengthen its presence in branded meat and fill in the gaps in its portfolio - notably in breakfast. The company also insists that it can drive synergies as it integrates its US sales and manufacturing capabilities, driving increased efficiency at Hillshire.
At US$6.4bn, or 12.5x EBITDA, Pilgrim's wasn't attempting to get Hillshire on the cheap. However, speculation swirled that a competing offer could emerge, with names including ConAgra, Sanderson Farms and even Kellogg touted. In the end, Tyson was the company to step up with a $6.8bn offer of its own.
Like Pilgrim's, Tyson believes it will benefit from moving its sales base up the value chain with the addition of high profile brands, such as State Fair. The move would jump-start the group's processed food business - one of the firm's three strategic growth pillars. The integration of Hillshire would also strengthen Tyson's margin structure and, through its integrated model, Tyson said it expects to drive further margin enhancements in the longer-term.
However, at 13.4x EBITDA, there are those who think Tyson is prepared to pay a little too dearly for these benefits. Indeed, management itself conceded that it would take three-to-five years for this investment to deliver on its targeted 20% ROIC.
While many pundits believe Tyson's offer will be enough to seal the deal, speculation remains that Pilgrim's could come back with another offer - or indeed that a third party could throw its hat in the ring. Some investors are willing to put their money where their mouths are and Hillshire's share price closed at $53.28 on Friday (30 May) - above Tyson's $50 offer.
A clear appetite for consolidation among US food majors has pushed valuations up from historical precedents - with previous average valuations of aruond 8.7x - to a range of 12.3-13.4x.
As companies vie to win through in consolidating industry as M&A activity steps up, they must be careful to maintain a disciplined approach. While there are certainly those who argue these high transaction multiples are bad news for companies - who are significantly raising debt levels to fund M&A - others are on the look out for who could be the next target on the M&A radar.
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