Dealmakers in Consumer Markets have been challenged by the geopolitical and economic trends impacting the world for several years now. COVID-19 spread against a backdrop of economic fragility and uncertainty following Brexit, decline in US-China trade relations, growing concerns around the environmental and social impacts of consumption, rising nationalism and digitalisation. In addition, up until February, mergers and acquisitions (M&A) valuations in Consumer Markets were high, leading to more selective dealmaking and an increased focus on M&A strategy underpinned by growth potential.
COVID-19 has reinforced these macroeconomic trends. As a result, large conglomerates will continue to create value and deliver growth through engaging in acquisitions and divestitures as part of ongoing portfolio reviews aimed at constantly redefining their core. This will hold particularly true for large fast-moving consumer goods companies (FMCGs) and grocery retailers.
The shift in consumer preferences towards digital solutions has accelerated, with the future belonging to agile businesses. Direct-to-consumer models with well-established online platforms and businesses, centred around health and wellbeing as well as sustainability, will emerge as winners. Those that lag behind, such as traditional bricks-and-mortar non-food retailers, will see an uptick in distressed M&A restructuring activity and in some cases failures, which will result in increasing consolidation among larger players.
Businesses will also look to crisis-proof themselves for the future by embedding operational and financial resilience, often through mergers and acquisitions. We expect to see large corporates turn towards divestitures to maintain adequate liquidity and a surge in buyers and sellers engaging in creative deal structuring to facilitate deal execution, particularly in the short to medium term.
While the full impact of COVID-19 will unfold in the months to come, overall we believe M&A will be a key driver of economic recovery, supported by high levels of private equity (PE) dry powder and a recovery in consumer sentiment.
“Consumer Markets has found itself uniquely positioned, with consumer spending shifting between its sub-sectors. M&A will bounce back – either as the more successful look to capitalise on recent growth or as the less successful encounter distress, resulting in consolidation.”
Deal volumes and values in the retail, consumer, and hospitality and leisure industries in 2019 were somewhat muted compared to 2018, reflecting geopolitical and economic uncertainties.
In the first half of 2020, COVID-19 directly impacted deals activity across Consumer Markets, with all three sub-sectors seeing a decline in both deal volumes and values.
However, Consumer Markets saw some notable deals announced during the period, such as Tesco’s divestiture of its Thai and Malaysian operations, PepsiCo’s acquisition of Rockstar, the strategic partnership between Coty and KKR, the joint venture between Carlsberg and Marston and, more recently, Puig’s acquisition of Charlotte Tilbury with private equity backing.
Retail, hospitality and leisure businesses have been particularly hard hit by the current economic uncertainties. As such, we expect these sub-sectors to experience heightened restructuring activity over the next 6-12 months, driving M&A activity through distressed asset sales and consolidation. This, together with big corporates carrying out portfolio reviews, will continue to drive overall deal activity in the sector.
Our insights indicate three big themes will drive M&A hotspots in the retail, consumer, and hospitality and leisure sub-sectors:
Constant redefinition of the core
Buying into the new “rule-breakers”
Building in super-resilience
Retail, consumer and leisure businesses have been focused on value creation strategies through constant redefinition of the core and striving for growth. Such M&A transactions have shown resilience during the recent economic uncertainty and will be around for the foreseeable future.
For some, striving for growth means bolstering their portfolios through acquisitions in growing categories, markets and channels. Others may focus on technology, talent and supply-chain acquisitions. The purpose is to fill portfolio gaps and strengthen market position, supply chains and routes to market. Pernod Ricard, for example, through the acquisition of Castle Brands gained a brand portfolio which it believes will allow it to offer its consumers the broadest line-up of high-quality premium brands. Another example would be PepsiCo looking to develop a complementary product offering and a direct route to market in China by acquiring a leading online snacking business, Be & Cheery.
Acquisitions are one growth strategy; another is leveraging divestitures to achieve the “perfect core”. FMCGs are exiting non-core categories and retailers are applying geographical retrenchment. The last 12 months have seen an emerging trend of European grocers exiting overseas (Asian) markets. Tesco announced the divestiture of its Thai and Malaysian operations in 2020, marking the company’s exit from Asia. This followed Metro and Carrefour both announcing divestitures of their Chinese operations in 2019.
Corporate vendors tend to use the cash proceeds from divestitures to reinvest in their core operations, as well as to implement transformation plans, deleverage balance sheets and pay dividends to shareholders. Deal values tend to be substantially higher for transactions that are asset-backed.
Explore the other key themes driving M&A activity.
“Rule-breakers” are disrupting the traditional landscape of retail, consumer and leisure businesses. In addition, these sectors have been facing digitalisation and ESG challenges. Such factors, coupled with a significant shift in consumer behaviour, are forcing businesses to adapt and rethink their core offering and go-to-market strategy.
Millennials have shown they prefer to spend more money on experiential purchases such as eating out, travel and going to sporting events, than on material possessions. This shift in behaviour over time has led to the growth of the sharing economy and the rise of companies such as Uber Eats and Airbnb – category disruptors in their respective markets.
Health and wellness is another focus area for consumers, with disruptors emerging in all categories from beauty products to health supplements, exercise equipment and activewear.
Growing concerns around the social, environmental and health impacts of consumption have seen another type of challenger emerge: “clean”, free-from and sustainable consumer brands. These are popular among both consumers and investors, as seen in the case of Shiseido snapping up Drunk Elephant, a “clean beauty” brand focused on the North American market.
Explore the other key themes driving M&A activity.
Faced with increased uncertainty, companies will look to “crisis proof” by building operational and financial resilience into their business models.
M&A could facilitate operational resilience through on-shoring and supply-chain diversification, vertical integration, digital transformation, automation, AI, optimising or right-sizing the cost base or tapping into new markets and synergies.
Financial resilience is typically achieved through having adequate liquidity and deleveraging balance sheets, and companies often turn to divestitures to achieve this.
In the current fragile market conditions, companies are more likely to resort to creative deal structuring to get deals completed. We note a growing trend for vendors to retain significant minority stakes, particularly in the case of complex carve-outs. This approach allows them to retain exposure to future growth as well as facilitate deal execution.
Metro and Carrefour, for example, each retained 20% stakes when they sold their Chinese supermarket operations.
More recently, Coty’s strategic partnership with KKR for its professional beauty and haircare business (a 60:40 split between KKR and Coty respectively) is indicative of how investors and corporates are likely to join forces in future. The partnership with KKR will enable Coty to deleverage its balance sheet and focus on delivering long-term growth, while KKR has acquired a controlling stake in an iconic beauty brand with a global presence and scale.
Explore the other key themes driving M&A activity.
Businesses will need to stay agile amid changing consumer behaviour and trade restrictions in order to preserve and create value. For some, this will involve constant re-evaluation of the core, for others it means embedding resilience into their business models and/or a complete reinvention to become the new rule-breaker on the block.
We believe that the already-challenging outlook for bricks-and-mortar retailers, particularly in traditional department stores, mid-market apparel and footwear, will lead to consolidation among larger players and an increase in distressed M&A and restructuring activity.
The direct impact of COVID-19 on hospitality and leisure businesses will inevitably cause casualties, particularly in the short to medium term. However, we expect the growing numbers of consumers prioritising “experiences” over possessions to restore long-term strength of the sector.
In the coming months, retail, hospitality and leisure businesses will have to wean themselves off a reliance on government aid and relief measures, as well as the forbearance shown by lenders and other creditors. This will reveal a clearer picture of which businesses will be in play for M&A activity.
M&A activity involving FMCGs and conglomerates has been more resilient, and we believe that portfolio reviews and carve-outs will continue to dominate for the foreseeable future. Several strategic reviews are already in the public domain, such as Unilever’s tea business and Philips’ domestic appliances business. Corporates with deep pockets will also be on the look-out for opportunistic deals.
Consumer Markets businesses will need to work hard to regain consumer confidence as territories ease lockdown restrictions. Those that keep consumer health and safety at the forefront will emerge as winners.
COVID-19 will reinforce nationalism and territories will seek to limit future vulnerabilities by reducing supply-chain dependence on China, in particular, and shortening or diversifying their supply chains to other Asian territories.
Finally, the last few months have been challenging not just for businesses, but also for the dealmaking process. Creative solutions for future dealmaking include:
While the importance of face-to-face interactions and building relationships between key parties will continue to be invaluable, particularly in crucial phases of transactions, we expect some of the aforementioned changes to last.
About the data
We have based our commentary on M&A trends on data provided by industry-recognised sources. Specifically, values and volumes referenced in this publication are based on officially announced transactions, excluding rumoured and withdrawn transactions, as provided by Refinitiv as of 30 June 2020, and supplemented by additional information from Dealogic and our independent research. This document includes data derived from data provided under license by Dealogic. Dealogic retains and reserves all rights in such licensed data. Certain adjustments have been made to the source information to align with PwC’s industry mapping. We define megadeals as transactions with a deal value greater than US$5 billion.