Consumer

Brooke Sutherland is a Bloomberg Gadfly columnist covering deals. She previously wrote an M&A column for Bloomberg News.

Rani Molla is a Bloomberg Gadfly columnist using data visualizations to cover corporations and markets. She previously worked for the Wall Street Journal.

Big Food's growth prospects have gone to the dogs. Funnily enough, that may be right where the solution lies.

As sales of old standbys like cereal and canned soup sputter, companies from Campbell Soup to General Mills are turning to acquisitions to help freshen up their product lines and add the healthier offerings that consumers are increasingly hungering for. The problem is, as Gadfly's Shelly Banjo and Tara Lachapelle have noted, they're running out of organic, natural and otherwise better-for-you targets after a spate of deals for the likes of Applegate Farms, Annie's and Bolthouse Farms.

But Blue Buffalo just reminded investors about another growing market ripe for takeover dollars: pet food. 

Go Fetch
Sales of pet food are growing at a much faster rate than other packaged goods.
Sources: Euromonitor International (pet food), Bloomberg (packaged food)

The $4.5 billion maker of premium dog and cat fare jumped as much as 26 percent on Wednesday after reporting earnings results that blew past analysts' expectations.  Revenue at Blue Buffalo jumped 12 percent in 2015 and the company is on track for a sales boost of about 10 percent in each of the next three years. Compare that to, say, General Mills, which analysts project will post a more than 5 percent revenue drop this fiscal year, or Kellogg, which is heading for a third straight year of declines.

What's even crazier is that Blue Buffalo's growth over the next few years will outpace that of a number of health-focused food makers, including WhiteWave and Hain Celestial, themselves considered possible takeover targets because of their enticing growth prospects. It's not just Blue Buffalo, either: Pet food sales in general are on the rise, climbing 4 percent in the U.S. in 2015, according to Euromonitor. That ought to get acquirers' attention.

Hungry Puppies
Pet food sales have been rising both in the U.S. and around the world.
Source: Euromonitor International

Pet ownership is rising somewhat as the economy improves, but the real driver of this growth has been the shift to premium products that promote animal wellness with organic ingredients or higher protein content. Basically, as consumers seek healthier fare for themselves, they want their furry friends to be eating well,  too. 

High-End Chow
Premium dog and cat food have commanded a larger and larger slice of overall U.S. sales.
Source: Euromonitor International Note: Includes wet and dry food.

Premium pet food can command premium prices. The average price per pound of pet food was $1.71 in 2011. Now, it’s $2.38, according to GfK, a market research firm. Customers show more loyalty to pet foods, in part because of the digestive issues that can occur when switching between brands, according to Diana Rosero-Pena of Bloomberg Intelligence. That gives pet food makers more room to increase prices and it also helps protect the category against a downshift in consumer spending. 

A number of food companies are already big players in the pet market. Nestle, the maker of Gerber baby food and KitKat bars, controls about a third of the U.S. pet food market through brands like Fancy Feast and Beneful. Organic sales for the segment expanded 5.9 percent in 2015, making it one of Nestle's biggest growth drivers.

pet-food-market-share

J.M. Smucker moved into pet food last year with its $6 billion purchase of Meow Mix and Milk-Bone maker Big Heart Pet Brands. The company paid up for that deal, but by most accounts, the acquisition seems to be working out. Shares of Smucker have climbed about 20 percent since the Big Heart purchase was announced, versus just a 6 percent gain for the S&P 500 Consumer Staples Index. Sales slipped slightly for the pet food business in the most recent quarter, but the drop was mostly contained to the more mainstream brands, whereas premium offerings and pet snacks performed well. 

That dynamic makes Blue Buffalo an ideal target. Its focus on premium products puts it in the sweet spot of growth. Smucker would be one possible acquirer, though it may be out of the running for a bit while it pays down the debt it took on to fund the Big Heart purchase. Other buyers could include just about any of the big food companies, from those with pet operations already such as Nestle and Mars, to packaged goods makers grappling with slowing growth like Kellogg or Campbell Soup.

Any takeover would be pricey. After Wednesday's surge, Blue Buffalo is valued at about 4.5 times its revenue in the last year. That's triple the median multiple paid for recent big U.S. food targets. But buying growth in a growth-starved industry was never going to be cheap and Smucker's track record shows pricey purchases of the pet variety can pay off. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Part of the big jump in Blue Buffalo's stock may have been driven by short sellers covering their positions. As of Tuesday, about 35 percent of the company's free float was sold short, according to Markit data.

To contact the authors of this story:
Brooke Sutherland in New York at bsutherland7@bloomberg.net
Rani Molla in New York at rmolla2@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net