In December, M&A advisor Stefan Kirk outlined on just-food why food M&A had dried up, attributing a statistical decline in M&A deals to the absence of any recession looming on the horizon. Now, out of the blue, Covid-19 has arrived to cause that downturn, providing the stimulus needed to shake more life into the food M&A market once the epidemic recedes.
The Covid-19 crisis will not cause the M&A Darwinism of mass consolidations and weeding-outs that some are predicting.
But there will be areas of activity, fuelled, as in all crises, by the strengthening of already sturdy businesses and the weakening of the more vulnerable.
SMEs everywhere, which have lost clients or had supply-chain problems, are now sheltering in their trenches while the Covid-19 bombardment takes its course overhead – but they should re-emerge largely intact once the all-clear is given, provided the government-imposed lockdowns don’t last too long.
Much of their fixed costs, like property rents, loans and equipment leases, have been suspended thanks to measures taken by the financial sector. Their main problem is payroll, and here governments in varying degrees are providing support, for example by covering social security contributions. Mercifully, banks are well capitalised and public finances in good shape in 2020, providing the underpinning for all this to happen.
What is probable, however, is Covid-19, like all crises, will have the effect of amplifying both the success of robust business models, and the failings of more fragile ones. There should be a certain acceleration in M&A transactions, not because sellers are suddenly desperate but because their weaknesses have been painfully exposed, and they’ll worry things may deteriorate further if the ‘new normal’ includes fresh lockdowns, resulting from another attack of Covid-19, or other new microbes, or even to give the planet time-slots for its regeneration.
With that in mind, I’d like to explore three potential workstreams for people involved in M&A activity doing deals in the post-Covid-19 reality.
Growth of expansion capital funds
Typically, the robust business models belong to the larger players in any given food segment, which tend to have leading market positions, diversified sales and scale economies. They will now be in a better position to acquire, for example, the small confectionery player that’s dependent on sales from festive occasions, or the mid-sized poultry producer that’s lost customers that are consolidating their supplier base.
Some of these acquirers will seek to raise capital for these transactions. A potential client of mine, that was previously open to being acquired by a private-equity fund, now says he’d rather raise expansion capital for acquisitions that have become more likely than they were pre-Covid-19, and cede only a minority stake to a fund so as to stay in control.
At the moment, funds that provide expansion capital in return for minority equity stakes are quite rare, and often connected to banks, for example BNP Paribas or the EBRD. In the wake of Covid-19, there could be a lot more activity for such funds, as well as the opportunity to create new ones, that invest in food-sector leaders on the basis of their add-on acquisition pipelines, providing them not only with capital but also M&A and governance know-how.
Private label to acquire brands
Those robust business models in food can also, in many cases, be private-label ones rather than branded ones, because they are highly efficient and cost-effective.
During this crisis, consumers have shifted their purchases to essential, middle-of-the-store grocery products, away from impulse or convenience or single-serve ones; away from premium products and towards value-for-money ones. What’s more, to some extent, those new purchasing habits will remain even after the crisis, if only because many people have learnt to cook more.
All this accelerates the power shift away from marketing-based, branded producers and towards cost-benefit equation, private-label ones. With that power shift comes an accumulation of cash in the private-label camp, while results decline in the branded one.
This should create an opportunity for some of those private-label players to fulfil their long-held dreams of moving ‘upstairs’ into the branded segment of their markets, through acquisition, in order to diversify and to improve their margins.
These two M&A workstreams are linked – for example, a private-label ready-to-eat cereal producer that’s in the ascendant will acquire its faltering branded peers, using money provided by the expansion capital funds.
A boom in direct-to-consumer sales platforms
A third workstream emerging from the coronavirus crisis is relatively new – the rapid expansion of the direct-to-consumer model.
I’m working on a sell-side mandate for the operator of a D2C platform that sells diet supplements across central Europe. That project is a real eye-opener to the huge potential of that channel – in reducing sales-related costs, in improving margins, in customisation and in premiumisation.
Those alone are good reasons to invest in D2C. Add to that the new normal of the post-Covid-19 world, where companies will need to be in a permanent state of preparedness for the next lockdown, and D2C becomes an indispensable additional route to market for ambitious food businesses, especially those that sell differentiated products.
The main asset of a D2C platform is its customer database, and this is where the M&A opportunity lies. Building a database from scratch is expensive, time-consuming and now, with GDPR, hampered by regulation.
Pre-existing databases, that include the purchasing histories of their customers, will therefore command a premium in the M&A market, whether they belong to media companies, publishers, e-commerce businesses or other providers. There will also be the knock-on effect of increased M&A activity involving logistics providers to the D2C channel.
Covid-19 has opened a new chapter in our civilisation, in which economic recessions are caused by our natural environment rather than our financial one. It’s this, potentially, long-term feature that will have the main impact on food M&A, as it will nudge owners of business models that have proved vulnerable, but that still have valuable assets, to sell to their more robust peers.
It should also create the opportunity for new solutions, such as D2C, to flourish.