Coffee economics

M&A activity by coffee’s corporate giants

They say it all started when JAB Holdings acquired Peet’s Coffee & Tea in July 2012 for US$974 million in cash. When the privately held German conglomerate purchased Berkeley-based Peet’s, it was gaining control of one the first purveyors of specialty coffee – and a business that had fallen 6 per cent in the 12 months prior. Shares in Peet’s jumped as a result of the transaction, however, and a simultaneous coffee feeding frenzy began, with JAB playing a very active role. At that time, coffee only represented a small share of JAB’s expanding portfolio, which included luxury accessory and beauty brands. JAB only owned a minority stake in European coffeemaker D.E. Master Blenders 1753 (the owner of Douwe Egberts). But since the Peet’s acquisition, JAB has started divesting some of its luxury goods brands in pursuit of big or up-and-coming names in the coffee and café sectors. By the end of 2012, JAB also acquired Minneapolis-based Caribou Coffee. Next it purchased the remaining stake of Douwe Egberts, before acquiring a number of coffee and café brands over subsequent years. By 2015, other coffee giants were catching on – both to the coffee empire JAB was quietly building and to what was happening in the greater coffee industry. With high-quality, specialty and niche coffee at the receiving end of increasing consumer dollars, indie brands with loyal Third Wave customers became the focus of investors. Italian coffee maker Lavazza also became very active in the acquisition space, buying at least five smaller roasters within the past couple of years. “If we want to be independent in this big consolidation process, there is only one possibility – to grow,” Lavazza CEO Antonio Baravalle said in a statement early last year. “Either you sell or you grow, there is no other alternative.” Obviously, Lavazza chose “grow”, with its eyes set on acquisitions. “Lavazza looks for ‘local jewels’,” Baravalle tells Global Coffee Report. “The acquisition strategy seeks out these types of companies not only in markets where [we] already have a strong and organic presence, but also in other countries with high growth potential for coffee consumption. “Considering the process of consolidation in progress, our goal is to reach a dimensional level that allows us to […] create an independent global group specialised in coffee, ready to compete at the international level.” Win-win situation
  Regardless of whether or not JAB deserves credit for lighting the fire, the global coffee industry is consolidating amid a flurry of acquisitions. And experts say it’s only just begun. “It’s an important trend and we’re only going to see and more and more of it as coffee professionalises,” says Jeffrey Young, CEO of global research firm Allegra World Coffee Portal. “The investor world is now so aware of the power of coffee that we’re going to see a lot more smart investments.” As JAB vies for the number-one spot and Lavazza tries to hold onto number three, they are all in pursuit of the same things: revenue, growth, and revenue growth – goals made possible through the acquired company’s steady revenue stream, greater efficiencies, and a larger customer base. In addition to a larger customer base, the acquirer may gain access to an entirely new customer segment. Take Nestlé’s recent purchases of Blue Bottle and Chameleon, for instance. Nestlé already holds 39 per cent of the global coffee market, but in today’s industry its portfolio was lacking. “Nestlé had a strong hold on instant and single-serve, but it didn’t have anything in the super-premium or ready-to-drink (RTD) categories,” explains James Watson, Senior Beverage Analyst at Rabobank’s research arm. “Blue Bottle has helped Nestlé tap into both the RTD and super-premium categories, while Chameleon has helped it tap into the RTD and cold brew categories.” Acquisitions also give large companies access to innovations and technologies that a small company may have pioneered. When JAB bought Keurig Green Mountain in December 2015, it partnered with the pioneer of single-serve coffee. “We’ve seen this across all consumer packaged goods, with companies shifting toward outsourced R&D (research and development),” says Watson. “The new method of innovation, beyond basic line extension, is picking up a company already in that space.” “By viewing the acquisition as a process of enrichment, a two-way street, where each completes the other and enables new possibilities, we have established common paths to innovation and technological development,” said Lavazza Vice Chairman Marco Lavazza of the company’s Carte Noire acquisition in March 2016. In this way, the smaller company also benefits. They may gain access to R&D funds they didn’t have previously, technology the larger company has, or resources that allow them to scale up their own innovation. “If you’re a 10-shop company, selling may allow you to make technological innovations that you wouldn’t have the scale to do otherwise,” Watson adds. Other resources include a large company’s networks, supply chains and logistics. “These resources give them the ability to expand at a level and scope that they might want to in a competitive industry that they wouldn’t have been able to on their own,” explains Andrew Alvarez, lead analyst and coffee industry expert at market research firm IBISWorld. For Blue Bottle founder James Freeman, joining a company like Nestlé meant growth for his indie brand that wouldn’t have been possible otherwise. “Ultimately, it was an offer that secured our dream of growing Blue Bottle into the future,” Freeman told GCR shortly after the announcement. “This partnership enables us to bring our coffee to more places and do it in a way that assures meaningful growth and stability to our employees.” While Freeman may have never imagined his coffee delivery service would turn into what it is today – let alone be acquired by the global coffee leader – he did have his sights set on growth. “[These guys] are heavily connected into private equity; they’re talking to investors and building businesses that are investable,” Young explains. “There’s a lot of money out there if you’re a strong operator to be bought, so a lot of the entrepreneurs are priming themselves. [As such], we’ll start seeing more investable businesses. The advantage to building a business with a view of being invested is a brighter future.” The consumer payoff
  Acquisition activity in any industry isn’t without its naysayers, particularly in industries where independent and craft brands are stars of the show. Peet’s Coffee’s loyal customers were sceptical when it was acquired in 2012, and then Intelligentsia’s customers were sceptical when JAB-owned Peet’s came knocking in 2015. Customers fear the change that could come with “selling out”: commercialisation, brand dilution, quality declines, and more. “There’s a big ‘support local’ movement going on right now and so there will be individuals who look at it as ‘selling out’,” Alvarez tells GCR. “There could be brand erosion to an extent, but that would actually defeat the purpose. If the product starts to become inferior, then that’s a clear indication of why it might fail. But if everything stays the same, then there’s no downside to the consumer.” Watson says every deal risks upsetting – and potentially losing – a share of the über passionate customers, “but this group is a very small percentage of total consumers, so for every one you lose, you might gain two more. It just may mean that you shift into a slightly different consumer base as a result.” Young points to that “investable business” with a brighter future: “At the end of the day, we’re all in business. The idea of building something that is held up beyond one single human being creates a better lifestyle for everyone. These professional businesses provide more opportunities, more jobs, more training, more consistency, more of a consumer experience.” In most of the deals that have transpired during the past several years, both parties have cautioned against any major changes to the indie brand and have assured concerned customers (and employees) that its executives would maintain control. Expansion amid consolidation
  Despite the consolidation happening, experts and stats point to continued overall growth in the coffee industry. The global industry may have seen 20-plus acquisitions in the past five years, but that number is in stark contrast to the hundreds of micro-roasters and thousands of coffee shop-only businesses launching every year. According to IBISWorld estimates, the number of companies in the US coffee production industry has been expanding about 8.8 per cent per year on average since 2012. Market concentration is high, though, with the top three companies operating more than 60 per cent of the global industry. The coffee industry is in the mature stage of its life cycle, characterised by aggressive merger and acquisition activity and slowing in the number of new entrants. Industry leaders eventually start to experience slowed growth in their core competencies, and so product differentiation – whether internally or through acquired companies – is integral to sales growth. As such, IBISWorld estimates the number of new entrants to the US coffee production industry will slow to 6.4 per cent per year annually through 2022. “There is a saturation point to how many Third Wave coffee [brands] can exist, so new entrants will slow,” says Alvarez, noting that there might not be saturation at the midrange level. Adds Young: “We’re seeing slowing growth among the big chains. It’s still growth but it’s slowing. That’s a worrying sign for the big companies but an opportunity for the small companies.” As growth stagnates among larger players, they look to boost sales through a more diversified portfolio and through smaller companies that are still seeing steady growth. “There are only so many companies for Peet’s to buy,” Watson remarks. “We’re in the peak of it now, but I think it will slow down after awhile.” Watson likens the rapid growth and M&A activity in the coffee industry to that of the beer industry. As craft brews took centre stage while growth among the largest players stagnated, consolidation picked up, eventually making AB InBev the world’s largest brewer. “The similarities between the development of coffee and beer are striking: an upstart using an aggressive acquisition playbook to challenge established global players, coupled with the emergence of a smaller premium ‘craft’ segment,” he wrote in Rabobank’s 2017 coffee industry report. He and the other experts are silent on what company will likely be acquired next, but reports have pointed to Dunkin’ Donuts or Philz. JAB was rumoured to be eyeing Dunkin’ as a way to compete directly with number-three contender Starbucks. But with ownership comes a complex, albeit successful, franchise network. Philz is the industry’s current darling: a family-run business out of San Francisco with 40 locations across California and Washington, DC, including in Facebook’s headquarters. It has the same individuality that indie roasters take pride in and Third Wave consumers are drawn to, which is why tech investors have already poured more than $75 million into the chain. Regardless of which roaster is acquired next and by whom, coffee consumers are increasingly pursuing brands that look like Blue Bottle versus something run of the mill, says Young. “We’re entering a much more professional era where quality is pivotal, and replicating that quality on a commercial scale is going to be equally important.” And that is where the perfect partnership is made: the indie roaster with its super-premium coffees under a brand with a strong following and steady revenue growth combined with the plateauing industry behemoth’s previously unattainable access to resources and scale. 

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