Two years after the formation of The Simply Good Foods Co. and pledging more M&A in snacks, the US group that’s home to the Atkins brand has made its second acquisition. Dean Best weighs up the company’s US$1bn move for Quest Nutrition.

“During the past year or so, you’ve heard me comment a number of times that we evaluated many acquisition assets and that it’s been challenging to find the right branded business in this category at a reasonable price,” Joe Scalzo, the CEO of The Simply Good Foods Co., told analysts and investors last week. “Today, we’re announcing the acquisition of Quest Nutrition. It is a perfect fit for our growth vision, a good complement to our Atkins brand and we believe represents a compelling transaction.”

Denver-based The Simply Good Foods Co. was set up two summers ago when Conyers Park, an acquisition vehicle put together by a couple of industry vets at private-equity firm Centerview Capital was merged with Atkins Nutritionals, the US nutrition business owned since just before Christmas 2010 by another US buy-out house, Roark Capital.

The US CPG industry veterans that founded Conyers Park were Jim Kilts, the ex-Gillette CEO and former Nabisco chief (and who set up Centerview) and Dave West, whose CV includes four years at the helm of Hershey.

A Conyers Park investor presentation from April 2017 states the special purpose vehicle was “formed to create an attractive, scale player in the CPG space”. The combination with Atkins and formation of Simply Good Foods was the first move but the Conyers Park team said at the time it wanted to “build a large-scale platform via M&A to create significant value for our shareholders”.

The US$1bn acquisition of Quest, a California-based supplier of high-protein snacks, announced last week (21 August) was the first deal done since.

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Quest, set up in El Segundo in 2010, was said to have to enjoyed rapid growth in its early years, with Inc. naming the business the second-fastest-growing private company in North America in 2014 due to a three-year growth rate of 57,000%.

In 2015, the private-equity firm VMG Partners acquired a minority stake in Quest, a deal that reportedly valued the business at $900m at a time when it was said to be generating revenue of circa $300m.

When VMG invested in Quest in 2015, the food company’s sales were not publicly announced, so one cannot be certain it was enjoying a top line at the time of around $300m. On Wednesday, Scalzo said Quest was expecting net sales in calendar 2019 of “about $345m, an increase of mid- to high teens on a percentage basis versus last year”.

Quest’s adjusted EBITDA is expected to be $50m in 2019, Scalzo told analysts. Combined, the new business, on a pro-forma basis, generates annual sales of around $837m based on Simply Good Foods’ recent results and Quest’s projections for this year. Adjusted EBITDA is estimated at around $143m.

The Californian company’s sales and earnings estimates mean Simply Good Foods is paying around a three times EV/sales multiple for the business. The EV/EBITDA multiple comes in at 20 times. However, including some tax benefits and taking into account $20m in synergies Simply Good Foods expects to accrue from combining the businesses, the multiples come down to 2.5 on sales and 12.4 times on EBITDA, described by analysts at US investment bank Stifel Nicolaus as “very reasonable”.

In a note to clients, Stifel Nicolaus analysts covering Simply Good Foods said the deal would be “modestly dilutive to earnings immediately (accretive in future years) but enhancing to its growth profile”, adding: “We believe this transaction is a step along the company’s path to build a nutritious snacking powerhouse.”

Scalzo sought to emphasise the recent performance of the Atkins and Quest brands versus the wider category in which they operate – but also the performance of the category versus other parts of the centre of the store.

“Many of you are familiar with the Atkins accelerated retail takeaway growth. Quest has experienced similar results and both brands have outpaced the nutritional snacking category,” Scalzo said. “The nearly double-digit category growth across all time periods versus low-single-digits for centre-store packaged food seemed to indicate that snacking and meal replacement products with a better nutritional profile continue to gain momentum. Given the mega-trends behind the better-for-you snacking movement, we believe that we’re still in the early innings of driving consumer awareness, adoption, trial and repeat.”

Different data points from analysts covering Simply Goods Food appear to support Scalzo’s comments. “On a combined basis, Atkins and Quest’s growth stands above 20% over the past 52 weeks significantly outpacing the growth of the nutritious snacking category, which we estimate is growing 4%,” the analysts at Stifel wrote.

Sanford Bernstein’s Alexia Howard said Atkins and Quest had been “gaining share in recent years at the expense of brands such as Fiber One and Nature Valley”, while Brian Holland, an analyst at US financial services company D.A. Davidson & Co., said the combination of the two brands “makes for a strong number two player (behind Clif) within nutritional bars”.

Simply Good Foods did admit some surprise, however, at the growth rates Quest was still enjoying with its core bar, the product that kicked off the business at the start of the decade. Some 70% of Quest’s sales are still generated from its core protein bar.

“Frankly, that was the one concern when we started looking at this business: was this really just a white space distribution play?” Cunfer said. “We were pleasantly surprised that the biggest piece of the business, the core bar business, was growing very, very well, and it was almost all base velocity.”

That said, distribution gains are a factor in the acquisition. Outlining to analysts why Simply Good Foods had moved for Quest, the company’s management focused on the differences in the brand propositions of Atkins and its soon-to-be stable-mate and in the types of consumers they target. They also pointed to how the sales of Atkins and Quest are split across different retailers.

“While our nutritional philosophies are similar, the brand promises and consumer targets are very different,” Scalzo said. “Atkins is a low-carb lifestyle brand offering delicious snacking products for adults seeking better health and to manage their weight. Quest is an active sports performance brand that delivers delicious snacks that support people on their personal quests. Quest has a younger, more active consumer that is highly complementary to that of Atkins.”

D.A. Davidson’s Holland agrees. “Similar to Atkins, its portfolio is comprised of offerings that are high in protein and low in sugars and net carbs; however, via [US market intelligence firm] Numerator we see the Quest brand skews younger than Atkins and broadens the combined company’s channel reach – consistent with management commentary that overlap is minimal.”

At present, Atkins generates almost 83% of its sales from the food, drug and mass channels, while Quest’s mix is more varied, with about half from those three areas, a further 18% from speciality stores and 17% from e-commerce.

“Quest generates about half of its US sales in the traditional food, drug and mass channels. Hence, we see an opportunity to apply our extensive FDM knowledge to increase Quest distribution and product offerings through these channels,” Scalzo said. “About 27% of its US sales are generated in the e-commerce, speciality and convenience store channels where Atkins is underdeveloped. Twenty of their business is e-commerce. We’re at 5%, so there’s a big opportunity. Just looking at where they are in development, they’re probably three or four years ahead of us. I think they can accelerate the Atkins capabilities in e-commerce and help us capture that some of that opportunity, too.”

Stifel Nicolaus pinpointed the changes to come in the combined company’s channel mix in its analysis of the acquisition.

“Quest’s channel distribution includes a higher penetration in the faster growing e-commerce and c-store channels while lowering the exposure to the mass channel. Following the transaction the combined company’s exposure to the mass channel will be reduced to 38% (down from 45% today) and e-commerce and c-stores will represent 14% of sales, up from approximately 5% today,” they wrote.

At present, however, Quest’s margins are lower than those enjoyed at Simply Good Foods, although the acquirer said recent changes at its new asset had affected profitability.

“They were in-house manufactured on their protein bars out of Southern California. They have been evolving to an outsourced model, pretty much a mirror of ours,” Scalzo said. “So you’re seeing a little bit of a lag in the profitability of the business because of the transition. They have evolved into a pretty smart supply chain model, and you’re starting to see that flow through to the bottom line in there from a profitability standpoint. We think we can help accelerate that for them as we combine the businesses.”

Cunfer raised another factor. “I would say the other thing is a little bit of mix,” he said. “So both from a product perspective, some of the new items they’ve launched in the last couple of years that Joe mentioned currently have a little bit lower margin than the core bar portfolio and then their channel mix as well. They have a broad distribution, a lot of e-commerce, a lot of specialty, a lot of c-store and that channel mix versus ours is a little less profitable as well. But as we’ve pointed out, we’ve identified significant synergies. We feel very, very confident in the next couple of years those EBITDA margins will be very similar to Atkins.

“I just want to add, the way we think about this acquisition, this is really a growth play. These are both brands and assets that are growing significantly. Right now, we feel that is really the large opportunity here. Synergies are a nice addition to the model that we’ve built. But the real upside here is the growth play.”