Dog days are ahead for dealmakers in the branded pet-food industry – thanks mainly to a shortage of big and profitable M&A targets.
For years, strategic buyers pursued large companies that sacrificed profits in favor of fast growth and scale. But with tighter lending terms and consumer inflation, buying unprofitable companies in today’s market looks increasingly… unprofitable.
Assets like the loss-making Freshpet [NASDAQ: FRPT]—facing recent calls for board changes or a sale from activist shareholder JANA Partners —simply will not be attractive to strategics in today’s market conditions, say sector advisors.
Today’s strategic buyers value healthy profit margins as equally important as healthy market share—or between USD 200m and USD 300m in revenue. With few such assets now existing in pet food, deal flow is expected to slow in the near-term.
Scarcity wags the dog
Pet food dealmaking reached a peak in 2021 when a record 30 transactions were inked in North America, according to Dealogic. Activity then almost halved to 16 deals in 2022, and 2023 is tracking a more sluggish pace.
To be sure, the biggest pet food deal in nearly five years was agreed last month. But the USD 1.2bn sale of several JM Smucker pet food businesses to Post Holdings [NYSE:POST] will at least contribute USD 100m in adjusted EBITDA.
Without profitable assets, leading strategics such as Mars Petcare, Nestlé Purina, General Mills’ [NYSE: GIS] Blue Buffalo, and Colgate-Palmolive’s [NYSE: CL] Hill’s Pet Nutrition are likely to look away from M&A.
Until then, they are likely to home in on organic growth, and with the globalization of pet food—and China representing a major growth market—there is a long runway to cover before they may feel the need to revisit M&A.
The scarcity of profitable targets means exit multiples are now between 15x and 20x EBITDA and sometimes as high as 25x, two sources said.
Dealmakers are expecting more profitable assets of scale to hit the market in two or three years—which gives middle market companies time to merge and grow with private equity investment.
One potential target wagging tails is Massachusetts-based Wellness Pet, backed by Clearlake Capital. Last year it reportedly retained advisors for an IPO, though it never ended up listing.
Chasing newer categories
Despite the M&A slowdown, younger pet food segments are growing quickly and profitably.
Vitamins and supplements is a prime example in pet consumables. One major deal in that category was the 2021 sale of Zesty Paws, a provider of nutritional supplements for cats and dogs, to Hong Kong-based Health & Happiness Group [HKG:1112] for USD 610m.
Private label pet-food manufacturers are also attractive. Since they offer a cheaper alternative to branded foods, their sales tend to increase during a recession, and their profit margins are higher. Post’s entry into pet foods last month included JM Smucker’s private-label business, along with several brands.
Value-priced foods are favored when families tighten budgets. By contrast, expensive brands price out the masses during an economic downturn. That includes the costly yet increasingly popular freeze-dried and frozen raw dog food products—which strategics are hesitant to acquire due to the liability of selling raw food. Still, targets garnering attention in the raw freeze-dried category include Wisconsin startup Tucker’s and A&M Capital-backed private-label manufacturer BrightPet Nutrition.
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