Analyzing Values For Acquisitions
Several key metrics and value equations should be considered
By Adam Ismail
In the past year the industry has undergone some pretty significant changes with the entry of large food companies and the sudden rise of Royal Numico as a dominant player in supplements. We saw companies paying as much as five times the going rate compared to a year ago for acquisitions. There are more companies for sale now than ever before and many feel they deserve these valuations. The big numbers everybody talks about are revenue multiples, but these are probably the worst determinants of value. Usually they are one of the only financial metrics available for Internet companies, which are largely unprofitable, so why do we use them in our industry? The nutraceutical space is small and for the most part very private, so on the rare occasion that a company will release data on its acquisition, it usually only gives revenue numbers because they tell the least about the business.
A key metric is the projected free cash flow for a company, which is basically the amount of return you will get on your investment in any given year. That is what drives the value in acquisitions, because it is ultimately what you get back. So, when Kraft pays 2.2-2.5 times revenue, it is because it feels it can get enough cash out of the business in the future to meet its strategic objectives. It makes sense when you consider that the mass market has been a rough challenge for companies in our space. Companies like Kellogg, Kraft and Nestlé know the segment better than anyone in foods, so they can compete better there than a small supplement brand.
For the most part, even the larger midsize brands and companies in the nutraceutical space cannot derive that type of value from an acquisition, but that does not mean sellers’ expectations have remained reasonable. In many cases, acquirers with aggressive return objectives will not be able to find a company willing to sell within reasonable boundaries.
Are there any substantial value plays left in the industry? For the most part branded supplement companies are difficult to derive good value from for a company committed to its long-term objectives. Anybody hoping to sell the company in a few years could get a great return, which in part is why you see North Castle Partners being so aggressive and Burrill Ventures launching a new fund for nutraceuticals. However, for the longer term players, the raw material space still has a lot of value left. Most of these companies are being bought or trading for between five and seven times cash flow. Consider Hauser, which may be the best value out there. The company is trading with a market capitalization between $5-7 million, but it has over $80 million in sales. The company is losing money, but a skillful company may be able to carve out its general and administrative expenses and derive value from the company.
Nothing comes easy, though. Despite the values found in the raw material space, as with any other segment, there are other unique challenges to deal with. Traditional families closely hold many of these players. Indena, Martin Bauer, A.M. Todd Botanicals and Hauser are all more than 50% controlled by one core family and they may not necessarily part with their hard work so easily.
This of course does not mean that if a company is not a value play it is not a good acquisition target. You have to consider the intangible strategic value—it may be a great move to acquire a competitor with shelf space to expand distribution or to acquire one competing head on with you. Or of course, you might even have to pay the full value for a company just because that is what it is worth, which is not a bad thing if you can capture that value. Regardless, the industry is consolidating even faster. Look for one or two big acquisitions in the supplements space and for the food space to begin slowing down along with its valuations. Who knows, in a few years the food players might even be value plays again.