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Middle-market food companies facing greater competition for deals
by Jeff Sheban and Emily Fasold in Chicago
May 02, 2017

Middle-market strategics are facing increasing competition from private equity and major corporations for the small-but-promising food companies that have been staples of their M&A diet, according to various sources.Factors include a greater willingness on the part of PE firms to pay up for on-trend food companies, combined with more resources being poured into emerging brands by the VC arms of major consumer packaged goods (CPG) companies.

“These smaller companies are seen as growth vehicles because they’re developing all the products that the millennial generation is seeking,” observed Anthony LeCour, a managing director with the Chicago, Illinois-based investment bank Dresner Partners and head of its consumer and retail practice. Up against more well-armed bidders, “a lot of small consumer packaged goods companies are having a difficult time competing,” he said.

That has been the experience of Peter Parthenis Jr., CEO of Pure Mediterranean Foods, a family-owned food company with revenue of USD 130m. While the company successfully acquired distributor United Foodservice and Italian beef maker Arturo’s of Chicago for undisclosed sums a decade ago, its success rate as a buyer has since simmered. Parthenis said Pure Mediterranean was a bidder last year for gyro-meat maker Kronos Foods, which ultimately was acquired by Colorado-based Grey Mountain Partners, a private equity firm with USD 700m in assets under management. The selling price, at an estimated USD 70m or north of 6x EBITDA, according to a sector source, was simply too rich for Pure Mediterranean.

“There are lots of PE firms out there now and they’re looking for a stable place to put their money," Parthenis said. "They see the food industry as recession-proof, and because of that they’re willing to pay more in auctions. It has been hard to compete with private equity firms as a strategic," he commented.

Gian Ricco, director and head of the food and beverage practice for the Chicago investment bank Stout, said traditional packaged foods companies that sold for 5x EBITDA three years ago are going for 7x in today’s market, with “better for you” brands commanding 10x and more. "And there is no sign of it ending anytime soon," he said.

LeCour said a major reason why middle-market strategics are struggling to remain competitive in M&A is the estimated USD 1tn in cash that PE firms would like to deploy. The investment arsenal is multiplied many times by readily available credit, he added. Ricco said he has heard of combined senior and mezzanine leverage of 5x to 7x cash flow being available for the most attractive assets, a level of available debt financing last seen in the 2005-07 period, just before the Great Recession.

New entrants

Another factor changing the M&A dynamic is the proliferation of new VC firms established by the likes of Campbell Soup Company [NYSE: CPB], Kellogg Company [NYSE:K], Tyson Foods [NYSE:TSN] and Unilever [NYSE:UN]. LeCour said at least nine such entities have been created since 2014 with a mandate to identify and invest in promising brands.

“The large CPGs, through their VC arms, are using M&A to supplement their own R&D,” LeCour said. “Despite all their capital, they have not been very successful at creating the ‘better for you’ products that consumers are demanding.”

In addition to outright buys of promising companies, LeCour said the CPGs are seeking early investments to establish relationships through their VC arms that will give the parent company a leg up on bidders if and when the target becomes an attractive buy. Here is a sampling of the activity:

• Tyson Foods, the most recent major food company to join the VC ranks with the establishment of its Tyson New Ventures LLC last December. The USD 150m fund will invest in “entrepreneurial food businesses” with the first investment coming in the form of a 5% stake in plant-based protein producer Beyond Meat, Tyson Foods said.
• PepsiCo [NYSE:PEP] took a minority stake in probiotics beverage company KeVita in 2013, when the company had revenue of less than USD 50m, LeCour noted, before acquiring the entire company in 2016 for an estimated USD 200m, according to industry reports.
• In 2015, General Mills [NYSE:GIS] established 301 Inc. as a business development and venture unit to“collaborate with emerging food brands,” according to the unit’s website. 301 has invested in at least half a dozen early stage brands, which LeCour said “gives them a pipeline in product development and also an option to buy” when the time is right.
• Not to be left behind, Kellogg’s eighteen 94 Capital fund made its first move in January, leading a USD4.25m Series A investment in Kuli Kuli, a maker of morning a-based products. The fund was launched in June 2016 to invest primarily in companies pursuing “next-generation innovation,” Kellogg has said.
• Other major food companies that have created VC funds recently include Danone [EUR:BN.PA], The Hain Celestial Group [NASDAQ:HAIN] and The Coca-Cola Company [NYSE:KO].

How to play it

More competition and limited financial resources are not the only competitive disadvantages for the Pure Mediterraneans of the world, the bankers agreed.

"He doesn’t have a huge team out there looking for deals," LeCour said, and with the responsibilities of running a family business, "he just doesn’t have the bandwidth to execute an effective M&A strategy." The only alternative given current market conditions is to "find more targets that he’s got a better chance of winning."

Sitting on the sidelines until things cool down might also make sense, Ricco commented. "You’re going to overpay in this market whether you’re a large strategic, a private equity firm, or a small strategic," he reasoned. "Are you better off doing the deal and overpaying? It’s a tough thing to say, but you may have to wait out the cycle."