FMCG CEOs: 8 Reasons Why The Pace of M&A Will Only Accelerate in the FMCG Industry

‘Economic progress in capitalist society means turmoil. Destruction after all is a form of creation’ J.A. Schumpeter

In our age of disruption, those words from Joseph Alois Schumpeter have never ringed so true. More than ever our role as FMCG leaders is to embrace disruption, to accept destruction and to lead creation. In those exciting times, we will recognize the true leaders

The Kraft-Heinz offer might have been rejected by Unilever but we all took notice that 3G was ready to propose $143bn (and it was still the opening bid), which would have made this deal the 2nd largest in history only after the $202bn Vodafone-Mannesmann deal in 1999.

And it is not only about 3G; The JAB holding companies (Coty with P&G Beauty, GHD, Younique / JDE with Keurig, Super Group / RB with Mead-Johnson), Danone/Whitewave, Unilever with Dollar Shave Club and Seventh Generation, Henkel/Sun, PepsiCo/KeVita, J&J/Vogue Hair Care and many others… the pace of M&A in the FMCG space is accelerating at an unprecedent pace.

2016 may have seen a lower combined deals value ($70bn) than the record year 2015 ($226bn with the Ab-Inbev/SAB-Miller deal accounting for $120bn of it) but the trend is clearly accelerating in comparison of the last 10 years (average $50bn yearly deals value) and it is only the beginning.

In those times of acceleration and transition, M&A is more than ever a strategic lever to achieve competitive advantage. And a dramatic increase in the number of transactions and their value would not be surprising. Here is why.

1. Super abundant and cheap capital

As described well Michael Mankins, Karen Harris and David Harding in an article published 2 weeks ago in the Harvard Business Review, capital has never been so abundant and cheap. The combination of expansive monetary policies, growing financial markets in emerging markets and the ever increasing proportion of ‘peak savers’ in the global population explain this situation.

In 2017, the global financial assets are estimated to be over 700 trillion (the equivalent of ~10 times of global GDP). In the meantime, the weighted average cost of capital (WACC) has never been so low. They estimate the WACC was at 5% in the US in 2015 (compared to 8% in 2010 and 9% in 2000).

The US Central Bank may well have increased their rate by another 25bps last week and warned on another likely increases in 2017-18. Cheap and abundant capital are here to stay at least over the next 24-36 months.

To know more about it: Strategy in the age of super abundant age

2. Tension on Revenue and Profit pushing for consolidation

Industries tend to consolidate when there is great tension on growth and profit. And that is exactly what is happening in the FMCG industry:

  • Top-line growth deceleration: growth has become harder to come by (from 5% CAGR over 2000-2010 to 3% CAGR over 2010-2015 at constant FX rate, and even -1% CAGR at real FX rate)
  • Sluggish profit improvement: Average profitability increased only by a meager 110 bps (from 17.6% to 18.7%) between 2010 and 2015 whereas it expanded by 390 bps over the 2000-10 period (from 13.7% to 17.6%)

Reasons are well known: retail deflation and increasing competition (retailers price war, promotional war to protect shares, rise of private labels and discounters, increasing competition from new entrants like direct-to-consumer pure players, and agile local competitors in developing markets), growth deceleration and retail deflation in developing markets, ease for consumers to compare prices across channels…

FMCG companies will seize opportunities to gain scale to resist to the above dynamics.

3. Significant value to address the cost structure of certain FMCG companies

There is still a significant spread of profitability performance from one company to the other. Looking at the best-in-class EBIT% and the largest FMCG companies, there is a gap.

  • Leading the pack: Ab-Inbev EBIT is 32%, RB is 27%, Kraft-Heinz is 23%
  • Whereas (to name few): Nestle has been lagging around the 15-16%, Unilever 14-16%, P&G 18-20%

If there is a debate about how much costs should be left in the P&L to fuel sustainable growth, there is a consensus that a number of large FMCG companies could do a better job at enhancing profitability:

I would be cautious there though. Most FMCG companies have been in restructuring mode for the last 5-10 years and already a lot of costs have been taken out. P&G for example displays today ‘below gross margin costs’ that are lower for example than RB. So there might still be some cost take-out opportunities to address but increasingly the challenge lies in gross margin and the way to go is more about innovation/portfolio management than sheer cost take-out. I will be surprised to see in 2017-18 acquisitions solely justified by bottom-line synergies.

4. Catch-up on consumer mega trends

Large FMCG companies spent top dollars last year to catch-up on healthy/organic consumer trends (Danone with Whitewave for $10bn, PepsiCo with KeVita probiotics …) and it is not going to stop.

For example, in 2016, in Europe and North America, 80% of the growth on food and beverage categories came from organic/bio/healthy products and most of the products behind this growth were not manufactured by large FMCG companies. Few examples:

  • Kind Bars succeeded in 5 years to seize 10% market share of the snack bar market in North America and records sales of $120mn per year
  • SkinnyPop with its healthy pop-corn with only 39 calories per cup exceeds the $200mn yearly revenue mark

As consumers are shifting rapidly their spending towards healthier products and as traditional categories like soft drinks and crisps are sufferings, large FMCG companies will have little other choice than to accelerate the pace of acquisition in this space.

5. Fast-track presence in developing markets

2016 might have been a tough year for developing markets (situation in Russia, growth slow-down in China, demonetization in India, recession in Brazil); developing markets remain a strategic battlefield for FMCG companies and time has come to accelerate M&A to fast-track presence. Few reasons for that:

  • 75% of the Growth in the industry over the next 15 years will come from what we call today developing markets, mostly as a result of increased penetration and demographic growth
  • Many FMCG companies are still sub-scaled in developing markets. Chinese market for RB before the Mead-Johnson acquisition was barely in the top 10 markets of the company, now post acquisition it will become the 2nd largest after the US
  • Local competitors are accelerating their market share gains. The acquisition of Hypermarcas, the local Beauty champion in Brazil, by Coty is testimony for this. China is also a great example, the consolidated growth CAGR over 2012-2015 of all foreign FMCG companies was only 3% compared to a staggering 9% for local/Chinese FMCG companies.

Despite large remaining challenges in developing markets: currencies deflation, 3As challenge (Affordability, Accessibility, Availability), catastrophic country specific situation like in Venezuela (which pushes most FMCG companies to report their financials excluding their Venezuela operations); most FMCG CEOs believe that time has come to fast-track presence.

Let’s keep in mind that one of the strong rationale evoked for both the Ab-Inbev/SAB-Miller and Kraft-Heinz/Unilever deals was to fast-track presence in developing markets.

6. Catch the direct-to-consumer (DTC) wave, pioneer new business models and learn to become an Exponential Organization

Dollar Shave Club and Younique might have been acquired respectively by Unilever and Coty, plenty Direct-To-Consumer and digital disruptors remain up for grab: Beauty Counter, Honest, Harry’s, Lola…

Although most FMCG companies are trying to build from within direct-to-consumer capabilities, many are looking at the same time at acquisitions to fast-track progress at a time DTC gains momentum across an increasing number of categories.

Beyond DTC, one of the expected benefit is also to learn new business models from those companies that are start-up at heart while being designed for exponential scale-up (cf. ‘FMCG CEOs: 7 reasons why Coty acquired Younique or why the race is on to become an exponential organization / 7 Reasons Why Unilever Acquired Dollar Shave Club)

7. Acquire emerging strategic skills (be a retailer, a media agency, a data management platform, an apps maker, a connected object manufacturer…)

If the future of the FMCG industry is to become omni-channel and to nurture direct consumer relationship through holistic consumer eco-system (products, services, connected objects, apps, consumer communities…), FMCG companies will have to learn to acquire those emerging strategic skills. In particular, they will have to:

  • Learn to become a retailer and master how to sell directly to consumers
  • Learn to become a media agency and master across their media spend programmatic buying
  • Strike strategic partnerships with connected objects manufacturers and apps makers

The acquisition of the digital media platform Beamly by Coty in 2015 and the app maker Alt 12 (Baby Bump, Pink Pad, Kidfolio) by Honest in 2016 are two good examples. No doubt that we will see more of those acquisitions in the months to come.

8. The specific corporate agenda of some of the largest FMCG companies

Last but not least, beyond industry dynamics, 4 companies are expected to make moves over the short-/mid-term:

  • Kraft-Heinz: this is an obvious one. 3G and Warren Buffet are more than ever on the look-out for a transformational deal
  • Unilever: Paul Polman announced it. The company is currently reviewing a number of value creation scenarios. A spin-off of its food business unit is rumored along with a consecutive reinvestment in the personal/beauty care space
  • P&G: Since his appointment Dave Taylor has been busy selling non-core assets (Duracell, some of the Beauty business) and refocusing the company on its top 10 categories. If all his attention is focused on reinvigorating the core business, if an opportunity comes across, he will surely not hesitate to make an acquisition, especially in the DTC space where P&G has been losing ground against smaller competitors. Last, the recent stake of Nelson Peltz, the famous activist investor, in P&G might trigger some larger moves like a large acquisition or a company spin-off (cf. How Peltz Can Turn P&G’s Tide?)
  • Nestle: The new CEO Ulf Mark Schneider is widely expected to accelerate the transition towards nutrition and consumer health to boost Nestle’s lackluster revenue performance. It will be surprising to not see any large acquisitions coming through over the short-/mid-term

I will develop in another article few thoughts on how FMCG companies can take the most out of M&A in the digital disruption age.

As often, I will close this article with the opening quote:

‘Economic progress in capitalist society means turmoil. Destruction after all is a form of creation’ J.A. Schumpeter

In the age of disruption, those words from Joseph Alois Schumpeter have never ringed so true. More than ever our role as FMCG leaders is to embrace disruption, to accept destruction and to lead creation. In those exciting times, we will recognize the true leaders

This article reflects only the views of the author. Frederic Fernandez does not own any stocks or financial instruments of any FMCG companies or companies mentioned in the above article. All the above information are public information

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About the author:

Frederic Fernandez is an expert and thought leader in the FMCG industry. He is the Managing Director and Partner of Frederic Fernandez & Associates a bespoke Strategy Consulting Firm exclusively focused on the FMCG industry. His focus areas are mainly in growth and profit turnaround, corporate strategy, direct-to-consumer and business model innovation in the FMCG industry. His passion is to help FMCG leaders co-creating the future of the industry and to develop, achieve and exceed the potential of their business. He spends his time advising Fortune 500 FMCG senior leaders globally. He is based in Zurich, Switzerland. He is also a sought-after speaker and speaks across the globe at trade associations and for corporate clients (CEO strategy meeting, yearly strategic reviews, senior management events) about the FMCG industry. Before joining the world of management consulting, he worked with Fortune 500 companies like Procter & Gamble, Reckitt Benckiser, PriceWaterhouseCoopers and Societe Generale in leadership positions across Europe (France, UK, Nordics, Germany, Switzerland, Austria), Central Africa and India.