Retail and Consumer M&A Outlook 2008

Challenges for retail and consumer product (R&C) companies are many in today’s business environment as a confluence of market forces have created an extremely difficult climate. 

In mature markets, R&C sector companies are constrained in their ability to grow and maintain profit margins as a result of a deflationary operating environment, market saturation, slowing population growth, and more discerning but less loyal consumers. There are also the immediate concerns of growing competitive pressures, an increase in the number of alternative sales channels, a blurring of roles between suppliers and retailers, and — particularly for consumer product manufacturers — a shift in the balance of power to the retailers. 

As a consequence, the strategic focus of the sector is moving towards the emerging economies and expanding consumer markets of Asia and Central & Eastern Europe — China and India in particular — which offer new opportunities for growth through global sourcing, off-shoring and the development of modern retailing. 

In addition, due to stakeholder demands and the resultant Sarbanes-Oxley legislation, the retail & consumer industry is also experiencing heightened regulatory pressures. These imply greater accountability and accuracy in the reporting of financial results under IFRS and US GAAP, increased levels of corporate governance and Board involvement, stronger internal control documentation and a greater need for stronger risk management practices across the enterprise.

Competitive pressures, especially the pressure on sales growth and profit margins, are encouraging companies of all types to pursue globalisation through M&A and industry consolidation. The availability of information technology and data capabilities have made serving and sourcing from global markets easier, thus permitting the adoption of new product and sales strategies, economic models and inventory management techniques to fuel growth. Consolidation, resulting in greater operational efficiencies and economies of scale, is shaping the retail industry and is seen as a way of strengthening one’s position in an industry with fewer, larger players. 

The global sourcing of products and the concentration of power within the industry are two factors affecting all retail and consumer companies. Suppliers are under pressure to deliver cheaper priced products and to deal more efficiently with retailers, who want to deliver everyday low prices. Global sourcing and acquisitions have been both a response and an outcome. In turn, retailers needing to increase sales and profit margins are expanding to global markets and consolidating to realise greater power in dealing with their suppliers.

According to PricewaterhouseCoopers’ landmark study of market valuation in the retail industry — Retailing & Consumer Reporting in the 21st Century — there has been a strong tendency to undervalue companies in the retail and consumer goods industry. One of the reasons is that intangibles, such as brand value and customer loyalty, have traditionally not been included as performance benchmarks. The widespread implementation of IFRS (International Financial Reporting Standards), which will enable international, industry-specific comparisons, will likely have significant effects on the market value of retail and consumer companies.

For the past two years, retail M&A has largely been a financial reengineering play with acquirers — especially private equity firms — extracting value from real estate.  But as that strategy plays out survivors will have to make their businesses work at the store level.  That argues for players with industry knowledge becoming involved in consolidating, reinventing and restructuring the remaining businesses.  This will change the landscape of the retail industry, especially broad line department stores.

SOURCE: PricewaterhouseCoopers