Investing to grow

Building on strengths

Businesses that rode out the pandemic strongly emerged in a good position to build on their strengths - through expansion into new markets and geographies. While organic growth can be the right choice for some (see "Doing More With What You Have"), for those with a surplus of cash and a healthy balance sheet, acquisition of a promising business can be the go-to option for growth.

At the start of 2022, dealmakers were riding high from the best year on record for global M&A. We predicted that it wasn’t likely to top 2021 in the face of growing headwinds—but the market expected M&A to continue to prosper. Fast-forward, and not only did the headwinds grow stronger, but new ones have emerged, including rapidly accelerating inflation and interest rates, and an energy crisis deepened by Russia’s invasion of Ukraine.

Despite these challenges, we believe that M&A will still play an important role in corporate strategies. Dealmakers have good reasons to reset their strategic priorities and make bold moves to get deals done in the areas of their M&A pipeline that matter most.

Let’s take, for example, the consumer goods industry. While some have suffered in recent times, others have performed strongly and are looking to push ahead of the pack. In most sectors there will always be categories, products or services that are creating a buzz, and in the case of the food sector it’s been meat free products. It’s a category seeing rising levels of consumer demand – the meat-substitutes category in the UK is expected to reach $1.01bn by 2026 – but which is also in line with ESG agendas.

That has triggered huge deal activity and competition within the sector. In 2018 Unilever, for example, acquired the Vegetarian Butcher, which it described as ‘a step on [our] journey towards a portfolio with more plant-based products’. More recently, Unilever announced a partnership with the food tech company ENOUGH, which will bring more plant-based food products to market.

And it’s not just the meat-free category that’s been booming. Wellness is also attracting huge amounts of attention; Unilever has recently completed deals to buy SmartyPants vitamins in the US and Onnit, a wellbeing company based in Texas. Across the world, food businesses are reassessing and reshaping their portfolios – and much of the competition is focused on these two areas, with good reason.

We’re seeing similar trends in other sectors too. Tobacco companies, for instance, started showing an interest in the highly fragmented e-cigarette market in around 2012. The following years saw a flurry of deals; it’s estimated that the e-cigarette and vaping market's growth momentum will accelerate at a CAGR of 13%.

Deals designed to access new avenues of growth are one thing; creating value through a deal is another. Unilever’s deal with The Vegetarian Butcher is proving promising. At the time of the deal the Vegetarian Butcher’s products were sold in 4,000 outlets in 17 countries; by 2021 they were being sold in more than 30,000 outlets in 45 countries. But that doesn’t mean that every deal in such a competitive market will create value.

We know the risks – our Creating Value Beyond the Deal study found that 53% of companies underperformed their industry peers, on average, over the 24 months following completion of their last deal, based on total shareholder return (TSR).

In such an intensely competitive and fast-moving market, it’s easy to take a misstep, such as paying too much for a deal. And businesses in the position to move quickly – such as those with plenty of cash and purchasing power – are particularly vulnerable to overeagerness.

This risk can be minimised with the help of calm planning and careful thought:

Challenge yourself.

Why are you thinking of buying this business? How does it fit in with the overall growth strategy? Why this business in particular?

What is the value creation plan?

How will you extract maximum value from the deal?

What could put value creation at risk?

The answer to this is often people and cultural integration.

Deals-led growth is typically characterised by large companies hoovering up smaller, entrepreneurial businesses. The risk is that these businesses which have a clearly articulated purpose and values which are widely understood and felt by their people, for example those with a culture that nurtures creative energy and talent, could be lost or dampened when subsumed into a huge multinational. This can have an impact on the retention and attraction of the right skills and talent. It’s not inevitable, but intelligent cultural integration takes work.

The recognition that some brands and businesses might do better on their own, where they can establish and pursue their own people strategy, without fitting into the operating model of a large corporate, has driven a number of deals in recent years, including Nestlé’s sale of its ice cream business to Froneri, a joint venture it set up with a French private equity firm.

And there are plenty of examples of deals that haven’t worked out quite as intended, for a wide variety of reasons. In June 2021, Reckitt Benckiser recently sold its China baby formula business, which it acquired in 2017 as part of its purchase of Mead Johnson, following lower sales than expected. Growth in baby products in China was thought by many to be almost guaranteed when the country’s single child policy was lifted, but birth rates have remained low.

Our CEO survey discussed how in order to be as attractive as possible to investors, customers and employees, it’s vital that every part of any business is able to deliver long-term value consistent with the purpose, culture and strategy of the organisation. In other words, competition for deals which can create value is not going to ease any time soon.