Big Consumer Packaged Goods (CPG) companies like Procter & Gamble, Unilever, and SC Johnson have been on an acquisition spree recently, resulting in exits for the founders of such companies as Tatcha, Native, Olly, Walker & Co., L, and Sun Bum.
I am often asked what Big CPGs look for when choosing a startup to acquire, and I’ve observed some consistency over the years when it comes to successful acquisitions. These observations can hopefully help demystify this topic and get you closer to your exit goal.
1. Understand CPG motivations and risk profiles
It’s critical to know what motivates a Big CPG and how this might differ from your own (and investor’s) motivations. Your dream might be to have a great exit, vest, cash out, and move on to the next world changing creation. Your investors are most likely looking for an exit with a strong multiple during the life of their fund.
Dollar Shave Club’s $1 billion exit to Unilever continues to be the goalpost in the consumer packaged goods startup world. Edgewell’s pending $1.37 billion acquisition of Harry’s is adding fuel to that fire. Big CPG companies, on the other hand, are looking for sustainable businesses they can scale and a price that will ensure their investment pays off in the long run.
A key consideration is the massive size of these CPGs, which sometimes leads to complications. Big CPGs are under incredible scrutiny from both a regulatory and legal vantage point. Regulations including Europe’s GDPR data privacy policies, concern around info security breaches, and class action lawsuits are top of mind for big companies. These issues are also low hanging fruit for anyone looking to make a public point or get a big lawsuit payout. A fine totaling 2% of prior year revenue (i.e. Europe’s GDPR infringements for less severe offenses; rises to 4% of revenue for more severe offenses) can be a major blow to a large company, given the calculation is based on total global annual revenue.
The best way to understand their needs and motivations is to get to know the companies you see as potential acquirers well ahead of your intended exit. Build relationships in whatever way you can as advisors, customers, partners, or even just socially. As a recent newsletter from Startups.com suggested, “While there might not be some ‘Tinder for Startup Acquisitions’ that everyone else is using but us it actually is all about building relationships.”
2. Deliver scalable business fundamentals
Hubble Contacts Co-founder and Co-CEO Jesse Horwitz recently reminded me that modern startups are not all that different from small businesses in the past. This seems obvious in retrospect, but it captures the first no miss here. No matter your startup story and what kind of investment you had, to be successful in the long run, your company must fulfill specific core, unchanged business fundamentals:
solve an important problem many people care about
offer the solution at a price users consider a good value
be significantly better versus the competition in a dimension users care about
ensure profitability after accounting for all costs or have line of sight to this
There is an important nuance here that applies specifically to startups looking to be acquired by a big company. Fortune 500 companies focus on products/services that can “move the needle” for their businesses. Acquisitions that can deliver long-term revenue in the hundreds of millions of dollars are more attractive. When sizing your target addressable market, make sure you take this into account. As an example, a brand that solves several unmet needs for women facing symptoms of menopause (more than 40 million in the U.S. alone) like the menopause care brand our team at P&G Ventures and venture engine M13 are collaborating on is much more interesting than a solution targeting a mere 5 million consumers.
On the path to profitability point, a consumer goods startup can learn from the likes of Native.
They prioritized profitability from Day One. It’s not that you need to focus on this immediately (or at the expense of crucial brand fundamentals like consumer love and great customer service), but rather have a plan for how to reach profitability as you scale. If, for example, founders can see themselves reaching 65% gross margin once raw material purchasing and manufacturing operations scale, this is highly relevant to strategics. The ability to scale is a core strength. This is even more important for brands that intend to stay in DTC as they grow, with no brick and mortar retail expansion lever on the horizon. Synergies can still exist in other areas, but retail expansion has historically been one of the first ways in which to drive scale and profitability.
3. Build operations that withstand scrutiny as you scale
One of the most appealing attributes of startups is their speed and agility. They also mostly operate under the radar, which enables them to have a higher risk profile than larger, more visible companies. The challenge here is that, if you intend to scale your startup yourself or via an acquisition, you need to ensure that the key factors that differentiate your brand and its fundamental operations can withstand scrutiny. This includes legal, regulatory, employee relations, and quality assurance practices.
Failure to ensure this kind of discipline often leads to big headaches like government agency warning letters, trademark disputes, an inability to scale a brand geographically, class action lawsuits, workers’ rights disputes, and other legal/public relations and regulatory challenges. As I mentioned above, big companies must be thoughtful about these kinds of things. One doesn’t have to look far to see examples of issues faced by companies like The Honest Company, Uber, and Peloton. These kinds of issues can affect the trajectory of a new company. In the case of The Honest Company, it had to raise a down round in 2017, which dipped its valuation below its prior $1 billion level.
4. Own something unique, valuable, and hard to replicate
This includes product IP or know-how, but can also include hard-to-replicate items like a special supply chain unique to your brand and a well-established brand equity. If you can’t protect what makes your product or service unique, it’s harder for an acquirer to determine value in the long term (directly correlating to both their level of interest and price they are willing to pay).
From your own perspective, not being able to protect what makes your company unique or its special advantage versus a competitor, renders you only one big VC check away from obsolescence. Someone else can outspend and outmarket you, taking your company from leading to stagnant.
There are many tales of first movers who failed to become market leaders. Inability to protect your differentiators makes you a target for well-executing followers with more money. Raden smart luggage went from the “Oprah’s Favorite Things” holiday shopping list to closing down in two years, partly due to losing customers to VC money-rich competitor Away. As Alex Wilhelm, the editor in chief of Crunchbase said, “If you’re in a space with VC competitors and you don’t have enough VC money, you have to be 10 times better or you will die.”
5. Foster value-creating strategic synergies
One of the key ways in which big companies create value for shareholders is by leveraging their strengths and scale advantages. For Big CPGs, this includes R&D expertise, supply chain scale, partnerships with retailers and media companies, deep category know-how, strong existing brand equities, etc.
If your startup fits well within your target acquirer’s competencies, it’ll likely generate a higher valuation and a more amenable acquisition target price. In a similar vein, if your startup helps a strategic acquirer build a capability or gain a faster start on something they’ve declared a priority, (e.g., a specific consumer group, category they want to enter, channel or market expansion, etc.), the same is true.
If you can nail both (holy grail), you’re even more valuable. P&G Beauty CEO Alex Keith captured this idea perfectly in a public statement she made after the Walker & Co. acquisition: “The combination of Walker & Company’s deep consumer understanding, authentic connection to its community and unique, highly customized products and P&G’s highly-skilled and experienced people, resources, technical capabilities, and global scale will allow us to further improve the lives of the world’s multicultural consumers.”
While the ability to drive these synergies is a big positive, inability to drive synergies becomes an issue the acquirer must grapple with. If, for example, your acquirer’s main advantage is retail scale and your company’s value proposition cannot be delivered in retail stores, this reduces your company’s appeal significantly.
6. Be ready to justify your valuation
Sky-high valuations driven by big cash infusions to drive growth (despite lack of profitability) can be a major issue for high-profile startups. This goes back to the fundamentals I started with: you must have a line of sight to profitability, or you will eventually run into trouble. Putting yourself into the mindset of your potential acquirer will quickly demonstrate why these high valuations can be problematic. No public company CEO wants to be known as the one who paid too much for an acquisition.
What you spend your investment dollars on also matters. Stitch Fix, for example, invested significantly in building ownable algorithms that enable them to excel at personalized recommendations. While they are now publicly traded and not looking for an exit, this investment early on strengthened their differentiation.
During a J.P. Morgan Global Technology, Media, and Communications Conference, Stitch Fix Founder and CEO Katrina Lake described how central this is to their strategy: “What’s really special about Stitch Fix is that 100% of what we sell is based on recommendation. We’re all in on this idea of personalization and recommendations, and that is where all of our focus is spent. And it’s a bet on where we think the future of apparel retail shopping is going to be, which is that whomever can personalize best is going to be the one who can win.”
Their website even offers a tour of their algorithms, with the catchy phrase, “There’s an algorithm for that!”
A CPG example, Harry’s, reportedly raised $375 million before Edgewell announced its intent to acquire it for $1.37 billion. A large portion of the investment (reportedly $100 million) went into buying its own razor blade manufacturing plant in Germany. This vertical integration gave Harry’s more control over its manufacturing. These kinds of investments in infrastructure that provide advantages are often more valuable to acquirers than spending funds on unprofitable growth. One watch-out is too much vertical integration, which can be great if you intend to grow the company yourself, but could become a complicating factor for acquirers who might find themselves having to pay for redundant assets.
7. Maximize flexibility
It goes without saying, but acquisitions are complex. They need to manage the desires and expectations of multiple stakeholders. Any additional complexity that delays a negotiation and closing, increases the risk of something going wrong (e.g., a change of leadership at the acquirer, a business downturn, etc.).
One of the complications that any startup should avoid is having too many voting shareholders that need to be tracked down and enrolled. Further, strategics want complete control over the companies they acquire. You need to avoid undesirable terms that survive a merger or acquisition. Further, if the founders and key members of the management team can be flexible in terms of their level of involvement post-acquisition, it can also help smooth the close. For the right price, a deal is likely to be reached eventually, but everyone appreciates avoiding a headache.
Big CPGs will continue to acquire startups as key sources of new brands, innovation, and capabilities even while stepping up their own internal innovation efforts. Strategics are becoming wiser and more thoughtful in terms of which companies to acquire and at what price. Big acquisitions like Dollar Shave Club’s and Harry’s take time to fully play out, so this story is still evolving. We will all learn along the way, but startups that pay attention to the seven points above will be well-positioned.
Mary Carmen (MC) Gasco-Buisson is a 22-year P&G veteran. Currently, she is a managing director/P&G executive on loan at M13.
Disclaimer: The opinions in this article are my own and do not necessarily represent the opinions of my employer.