PE bets on Asia’s growing food demand

The "protein theory" may sound a little high brow, but as a prominent and growing investment driver, it's fairly straight forward.

Agricultural markets in general have been strengthening year-on-year as a result of rising global demand. And within this, the economic dynamism of emerging markets like China and India is generating a burgeoning middle class as a knock-on effect. Urbanization leads to higher disposable incomes, which leads to greater appetite for protein-rich foods like beef, chicken, pork, fish and dairy.

Accompanying this are heightened concerns about safety. Against a backdrop of tainted food scandals, produce from overseas comes with a clean and fresh cache, which in turn translates into a price premium.

All of these things add up to a compelling opportunity for Australia and New Zealand's cattle ranchers and poultry tycoons - and private equity players are looking to capitalize on it. "Australia and New Zealand are seen as high quality plus safe food sources, and people overseas are willing to pay a premium for that - and increasingly have the means to do so," Andrew Thompson, national head of private equity at KPMG Australia, tells AVCJ.

Simply put, the two countries are among the world's most productive and relatively low-cost producers of protein, due to their natural assets of vast tracts of arable and grazing land and the high productivity of the farm sector. Australia and New Zealand also benefit from being closer to Asian markets than potential competitors in Europe and North America.

The PE strategy

The private equity approach is to buy up appropriate assets in this space at comparatively affordable prices. Investees' financial capabilities are then buttressed, marketing is restructured to focus more on export markets, and synergistic businesses are bolted on. Finally, the re-packaging platforms are sold on to strategic investors from growth markets in Asia or even the Middle East.

Much of this is speculative, of course, but there's no denying that deal flow has increased in recent years. Affinity Equity Partners has been responsible for two recent transactions of note. First, it bought New Zealand-based Tegal Foods, a significant chicken producer and distributor, from Pacific Equity Partners (PEP) for an estimated NZ$600 million ($482.3 million). The private equity firm followed up with the acquisition of family-owned Primo Smallgoods in a deal that valued the target at some A$740 million ($758 million).

"With Primo, it was more about the domestic sales, given their commanding market share. But Tegel is looking to develop its offshore markets. Exports are tripling year-on-year," a source familiar with both transactions tells AVCJ. "This protein consumption story won't end tomorrow; it'll be there for the next 20 years."

Other activity includes Archer Capital's acquisition - via its investee DairyWest Group - of Western Australia's Browne's Foods, a market leader in that area, in March 2011. Shortly after, DairyWest bolted on West N Fresh, a gourmet yoghurt maker. In both cases the prices paid were undisclosed. Milk powder production capacity is reportedly being ramped up, which suggests that exports are a focal point.

Earlier still, in March 2009, UK-based PE house Terra Firma picked up the Packer family's 90% stake in Consolidated Pastoral Company (CPC). The company is Australia's second-largest beef producer, with more than 300,000 cattle raised on some 5 million hectares spread over the Northern Territory, Western Australia and Queensland.

"We are delighted to make this investment in such a vital industry for Australia, and for its markets, notably in Asia," Terra Firma CEO Guy Hands commented. "The long-term demand for beef and the competitiveness of CPC make this an exciting opportunity."

Risk factors

These investments don't come without an intrinsic risk. "Take, for example, an agricultural play like buying beef and land," says one senior executive with an Australian buyout firm. "This business model involves being willing to pay more for the land than future cash flows suggest can ever be recouped, on the assumption that land both buys and sells at a premium to its underlying economic value."

There are two justifications for this. One is the belief that the buyer can farm better than the current holder. Part of this confidence is capital-driven, in that with greater resources and capital expenditure the operation can churn more cash and operate more profitably. The other is the belief that ultimately these considerations don't matter much, because land is real estate - i.e. a real asset - and therefore commands a much greater value than the economic yield it generates.

Other risk factors range from natural disasters - Australia has seen its fair share of fires, floods and droughts - to interest in the protein space driving valuations out of control. Industry participants say they see no sign of investor enthusiasm dampening.

"They can no longer rely on rising prices and deleveraging," KPMG's Thompson explains. "So while they continue to focus on buying well, they're also very focused on adding value. That can mean working on the traditional company internal types of issues. But with this specific food sector theme, it's a lot about reorienting the acquired business to start thinking about new markets."

For example, if the target is a business that that has traditionally relied on the domestic market, private equity can play an obvious role in helping management alter its marketing and logistical approach to overseas markets. Alternatively, a PE investor might facilitate the creation of partnerships with larger offshore entities, perhaps in the process even positioning the company as a target for strategic buyers.

First meat, now fruit

The field of opportunities is broadening. Earlier in February, Wolseley Private Equity exited Freshmax, a fruit and vegetable business that covers Australia and New Zealand, to Maui Capital. Brendan Hill, a director at Wolseley tells AVCJ that a broad range of trade and private equity players expressed an interest in the asset. "Interest in the Australasian protein story is now extending into horticulture, driven by recognition of the value of clean and safe food," he adds.

Since Wolseley's original investment into Freshmax back in 2006, annual revenues have grown threefold and exports now account for about 15% of the total sales, two-thirds of which are earmarked for Asia.

Several of the prospective investors in Freshmax had already lost out on two other deals in the fruit and vegetable space as Paine & Partners won the race for a 50% stake in Costa Group, Australia's largest fruit and vegetable producer, and Germany's BayWa completed the acquisition of New Zealand fresh produce specialist Turners & Growers. Both transactions point to wider trends in the market.

For Paine's, the Costa opportunity was all about generational change. The Costa family wanted to downsize its holding and take some capital out of the business, and the private equity firm was keen to partner with a market leader.

Kevin Schwartz, a founding partner at Paine, tells AVCJ that the firm's global expertise in fresh produce and complementary relationships to those already established by the Costa family helped secure the deal. It was also a marriage of local expertise and international financial clout - Paine has ready access to capital that can be used to drive organic and M&A-based expansion.

"Australia represents both an attractive domestic market and a base for expansion into Asia," Schwartz says.

Further activity in this subs-sector is tipped to come from Catalyst Investment Managers, which has retained Ernst & Young to advise on the proposed divestment of its 49% shareholding in Moraitis Group, yet another prominent family-founded and operated fresh fruit and vegetable producer.

BayWa's acquisition of Turners & Growers stands out as evidence of strategic interest in the sector. The transaction came about as the Germany firm took control of Guinness Peat Group, which held a 63% interest in the fresh produce player. According to BayWa CEO Klaus Josef Lutz, the objective was to use Turners & Growers as platform to expand into emerging markets, notably Asia.

Nevertheless, there has not been as many strategic acquisitions as one might imagine, given the level of interest. KPMG's Thompson blames it on a disconnect between foreign corporates and their local targets, particularly family-owned firms. He recalls a case last year where a large number of staff walked off the job following an acquisition by a Chinese company because the new owners failed to respect and respond to the existing corporate culture.

"You can't treat Australian employees on the basis that, just because a PRC company has bought the local company they work for, that they are now Chinese employees," Thompson says.

Paul Chrystall, managing director of Maui Capital, makes a similar point. Asked why he thought his firm prevailed over the competition in the bidding for Freshmax, he suggested that the management team who continue to be investors in the business, were comfortable working with Maui.

"We have a track record of trans-Tasman expansion; a track record of growing businesses in management buyout situations; and a track record of making money," Chrystall says. "Other parties would have needed to bring all that to bear and it's not necessarily possible if you are a trade player or if you are geographically removed."

Demand and supply

Strategic acquisitions have taken place in the wider food sector. The two standout examples from 2011 are Bright Food Group of China buying CHAMP Private Equity's controlling interest in Manassen Foods for an enterprise valuation of A$530 million and PEP and Unitas Capital exiting Independent Liquor to Asahi for NZ$1.53 billion.

It remains to be seen whether these transactions are outliers or part of a growing trend. One question asked in this context is whether there are sufficient viable targets for foreign strategic investors.

"I don't think we're awash with candidates," says one industry participant. "In the brewing industry here, it's concentrated in the hands of two or three large players. The non-alcoholic beverage business, on the other hand, is dominated by Coca-Cola Amatil. There are some interesting smaller operations, but these have mostly been snapped up already, one example being Frucor."

On the food side, by far the biggest local player is Goodman-Fielder. The field is filled out by a clutch of multinational corporations with global coverage. Their Australian subsidiaries are merely a small number of units within a much larger corporate group. Even in the protein space, there tend to be several large players - Primo has a 50% share of the chilled meats market - and an assortment of smaller operators.

Private equity firms may have ambitions to snap up attractive food assets and exit them to Asian distributors but competition for these assets is likely to be fierce.

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• Topics
• Australasia
• Consumer
• Buyouts
• Exits
• Australia
• New Zealand
• Exit
• Trade sale
• buyout
• Affinity Equity Partners
• Paine & Partners
• Wolseley Partners
• Maui Capital