The pet industry delivered another strong year of relative growth in 2014. According to the American Pet Products Association (“APPA”), the industry grew 4.2% to just over $58.0 billion in total revenues. While growth was again strong relative to other consumer sectors, it was 0.8% below estimates. This shortfall represents the first time in the past five years that the industry did not meet or exceed APPA projections.
From a growth rate standpoint, the industry was again driven by veterinary services (+4.7%) and non-health care services (+9.8%). The industry benefited from 0.9% of product inflation and 2.9% of services inflation, which puts volume/unit growth in perspective. With the pet population growing at a slow pace, the industry has benefited from price escalation to overcome anemic volume growth. Industry growth was again constrained by consumables which grew at 3.2%, 1.6% short of estimates. It appears that the industry may in fact be hitting the ceiling on the pet food upgrade cycle, as premium pet food market share was flat from 2012 to 2014 at 42% of pet food sales.
The slowdown in industry growth was, to the informed observer, not unexpected. The industry can’t grow at 5% when the largest specialty retailer produces flat comps. However, what was more meaningful in the APPA disclosures was the rate at which new owners were entering the inudstry. The APPA estimates indicate that as much as 10% of the pet ownership population came into the fold during the past 12 months, reflecting a rising rate of companion animal ownership among younger demographics at the expense of the Baby Boomers, who continue to slow pet replacement and when they do they favor smaller companion animals. If in fact industry purchasing power is transitioning to Gen X and Gen Y and this rapid pace it will have meaningful implications on what products are purchased and where.
In our bi-annual industry summary contemplate these changes are other key observations as outlined below.
- Convergence Gathers Momentum. Convergence between industries serving the human population and those serving companion animals is not an all together new trend. Not since Nestlé’s acquisition of Ralston Purina (2001) and Del Monte’s acquisition of Milk Bone and Meow Mix (2006), has the consumer landscape seen this phenomenon in play on such a grand scale. However, the J.M. Smucker Company/Big Heart Brands and AmerisourceBergen/MWI Veterinary Supply transactions are evidence that mainstream acquirers are again seeing the potential of buying into the pet industry. These buyers are seeking access to the growth inherent in the pet industry as a means to offset slowing growth or contraction in their core businesses. If this trend trickles down to the lower middle market it will be a game changer in terms of exit alternatives for leading pet players. Expect sellers to test this theory.
- Demographic Shift has Accelerated. In earlier reports we tied the recent performance erosion of major pet specialty to shifting industry ownership demographics. Our analysis postulated that rising spend from new pet owners, who are predominately part of Gen X and Gen Y, was benefiting independent retailers and online players at the expense of major pet specialty. A recent study by the APPA indicates that the industry added eight million new pet owners in the past year, nearly 10% of the owner population. Growth in first time pet ownership is accelerating faster than previously anticipated. If the rise of Gen Y, and to a lesser extent Gen X, in terms of purchasing power continues at this pace it will have significant impacts on industry spend. Notably, Gen X/Y pet owners exhibit less channel loyalty and ascribes more importance to convenience. Additionally, they place greater value on wellness which bodes well for retailers, product manufacturers, and service providers catering to these pet needs.
- Exit Dynamics for Consumables Improving. A challenge for pet consumable companies seeking to exit has been a decided lack of strategic acquirers. Consolidation has historically been dominated by a handful of major industry participants leaving smaller companies with few options for synergistic exits. However, this landscape is now changing. Most notably, investment in companies with production assets is creating a new class of acquirers. Existing brands such as Merrick & Company and Nature’s Variety as well as traditional producers including Ainsworth Pet Nutrition and Pro-Pet have become net buyers of assets as a result of third party investment. Additionally, consumer companies in adjacent segments have shown an interest in buying brands that control their own manufacturing capabilities. Finally, the successful public offering of Freshpet is likely to lead other mid-market pet food players to pursue public offerings, which will create more acquisition currency. This multiplexing of exit options is good for the ecosystem and will support additional consolidation.
- Expect a Blue IPO in 2015. In 2014, it leaked that Blue Buffalo had selected underwriters for an anticipated public offering. However, its plans were impacted when, in late 2014, it came to light that the company had received improperly labeled shipments from one of its suppliers resulting in animal by-products being introduced to some of their formulations. Since that announcement, there has been little news related to lawsuit brought by Nestlé that resulted in the non-conforming ingredient disclosure or about Blue Buffalo’s plans for a listing. In the interim, there has been continued speculation of an acquisition. We don’t buy it. Blue Buffalo’s valuation in the public markets would dwarf any buyers willingness and ability to pay in an M&A event. Looks for Blue to renew its listing push in 2H2015.
As always our pet industry report is available by commenting here or emailing me directly.
Note: This blog is for informational purposes only. The opinions expressed reflect my view as of the publishing date, which are subject to change. While this post utilizes data sources I consider reliable, I cannot guarantee the accuracy of any third party cited herein.