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Africa's FMCG sector still promising 21 Nov 2016

The fast-moving consumer goods (FMCG) – also sometimes referred to as the consumer packaged goods (CPG) – sector is one of the largest industries in the world. It generally covers mass-market consumables, including food and drinks, personal care, home care, and over-the-counter pharmaceuticals. Well-known global FMCG companies who operate in Africa include Unilever, Coca-Cola and Johnson & Johnson

FMCG in Africa

The FMCG market in Africa has been seen as part of the Africa rising story. The thesis being that a growing middle class with greater spending power will spend more on FMCG items. This – together with a large market size, improved education standard, stronger mobile and internet penetration, a young and growing population and increasing urbanisation – is expected to fuel this market.
    
But is FMCG in Africa still a market with growth potential despite the headwinds facing numerous African economies? A KPMG report in 2015 said that: “The FMCG sector in Africa has significant scope to expand. Poverty levels in especially Sub-Saharan Africa (SSA) are still quite high, with food and other necessities dominating consumer budgets. For this reason, the food sub-sector of FMCG has a very large market to cater for, while penetration rates in the other categories still have significant room to expand.”
    
The good news is that global FMCG companies are increasingly investing in emerging markets. A recent Euromonitor sector report indicates that 82 percent of all FMCG revenue growth in 2015 was accounted for by emerging markets.

The business of FMCG

As a general rule, most FMCG products tend to have lower profit margins. Therefore, it's all about scale and volume to drive profitability, which in turn depends on having economic and efficient access to a large population with adequate spending power.
    
FMCG products within categories are often difficult to differentiate. Therefore, price competition between retailers can be intense. So companies have to use marketing, brand loyalty, social media and other techniques to build their customer base and to grow margins and profitability.

Global trends

Globally, the FMCG sector has seen high levels of M&A activity for a number of years. This is despite tougher trading conditions in both developed and emerging markets, the global stock market volatility, and even the UK's vote for Brexit.
    
A recent report on M&A in the FMCG sector suggests that the following are the key trends for this sector:
•    Globalisation: Brand owners are looking to globalise, particularly focussing on the potential of emerging markets, including Sub-Saharan Africa's fast-growing economies.
•    Portfolio of products: Companies are increasingly expanding their portfolio of products with a growing emphasis on “premium/aspirational” and healthy products alongside existing mass and traditional brands to drive profit margins. (E.g see Cadbury's purchase of Green and Black and SAB Miller's purchase of Meantime Breweries – my personal favourite).
•    E-commerce and social media: This is changing the market considerably. Companies are looking to lower cost and establish direct-to-consumer online sales channels for better returns in comparison to more traditional sales through wholesalers and distributors.

Private equity and FMCG in Africa

African private equity (PE) fund managers like FMCG companies and have been paying serious money for stakes in these companies. Examples of significant PE transactions in FMCG companies in Africa include:
1.    8 Miles, African Capital Alliance and subsidiary of the German KfW Development Bank, DEG, investing $80 million for a significant minority stake in Beloxxi, a Nigerian biscuit manufacturer.
2.    Mediterrania Capital Partners and Euromena's acquisition of a minority stake in three North African retail clothing businesses owned by the Ben Salem Group.
3.    Duet's acquisition of Abidjan-based Societe Africaine des Produits Laitiers et Derives (SAPLED) (dairy & fruit juice processing companies) from the Sifaoui Group.
4.    54 Capitals entered Ethiopia's pharmaceutical sector through an investment of $42 million in Addis Pharmaceutical Factory.
5.    Duet Group and Asset Management Corporation of Nigeria's (AMCON) launch of a $400 million fund to focus on turnaround and distressed opportunities in the Nigerian FMCG sector. As part of the deal, AMCON is contributing six portfolio companies that are currently under its control to the fund. The fund will, in turn, invest up to $200 million in debt restructuring and additional capital in the firms.
Dentons advised on the transactions in items 2, 3 and 4. (No surprises that I chose these to mention).

FMCG in Nigeria

As evidenced by the Duet/AMCON and Beloxxi transactions, Nigeria is a market that is seeing FMCG deals. This is despite (or perhaps because of) the current economic malaise affecting the country and the well-known Naira/forex issues.
    
Factors that are conducive to such investments include Nigeria's move towards import substitution and local production. The ability of PE to provide capital to take advantage of these factors and still rely on the growing middle class/disposable income scenario is what is driving further investment into FMCG companies.

Issues in FMCG transactions

Like any other investment, buying an FMCG business requires proper investigation, due diligence and structuring. Issues that require investigation/structuring include:

•    Competition and merger control issues. This will depend on the impact of a transaction in the market. More merger control regimes are being implemented across Africa (both national and cross-border). These regimes often have low filing thresholds, high filing fees, long review periods (which can affect deal timetables) and could potentially impose significant sanctions for failure to obtain clearance/provide notification.
•    The local business cultures, operating environments and business practices of the target company. (For example, investors need to check if target companies are compatible with the investor's business values and standards). Failure to consider these issues properly can risk penalties and reputational damage. National agencies are increasingly taking extra territorial enforcement action for compliance failures.
•    Brand co-existence issues. For instance, where  company X has rights in a brand for particular markets or goods and company Y has rights in the same brand for other markets or goods.
•    How to deal with intellectual property (IP) issues, in particular, where the IP issues include image, personal or voice/sound rights and whether such rights can be transferred. The law in this area is unclear in many jurisdictions and requires careful analysis to understand how best to protect the relevant parties.
•    Product reputational issues. This can seriously affect the value of a brand. Appropriate examples include Samsung's exploding phones and allegations of unsafe levels of lead in Nestlé's Maggi noodles in India.         
•    Data, privacy and cyber issues. Has the target company complied with its data and privacy obligations and have there been breaches of data/privacy laws? Data breaches and cyber-attacks can severely damage consumer confidence and trust in a business or brand. Therefore, it is key to understand if any third parties process personal data on the FMCG business's behalf and the basis of the relationship. Issues to look for could include if personal data has been illegally disclosed to third parties; what data security measures have been put in place; understanding the flows of the target's data to identify compliance with any jurisdictional data transfer restrictions; and what are the risks and incidents of cyber-attacks.
•    Tax issues, particularly tax in the context of IP rights and transfer pricing. Without proper documentation and management, different tax authorities cannot assert that economic ownership of the IP resides in their territory. This can have adverse tax consequences. Other tax issues to consider include whether any payments by the target could be recharacterised as royalties; withholding tax issues; VAT and customs duties; and structuring the transaction to take advantage of tax relief under double tax treaties.

It's all about the brand

In many FMCG businesses, the key asset will be the relevant brand and (in some cases) the design of the product. Having a strong brand can differentiate one product from another and drive profit margins. Brand strategy can include loyalty programmes, customer interaction, advertising, promotions and packaging (e.g. sachet packaging to make products affordable).
    
The key due diligence issues here are: the ownership of the brand; what intellectual property rights there are in the brand and design; to what extent these IP rights are protected or capable of being protected legally; whether the brand has been registered in the relevant territories or target territories and if not, whether it can be registered; if a third party has already established the same or similar brand in the target markets either legally or by usage; and whether the brand and the relevant IP can be taken into new or target markets without any material issues.

Intra-Africa trade

One of the challenges to the growth of FMCG companies (and other trading companies) is that intra-Africa trade is still very low. However, steps are being taken to create trading blocs or free-trade areas to overcome this. Currently, there are at least eight regional trade agreements such as Economic Community of West Africa States (ECOWAS) and East African Community (EAC). In June 2015, 27 Africa countries (extending from Egypt to South Africa) launched the Tripartite Free Trade Area (TFTA). Steps are also being taken to establish a free-trade area that would include all 54 African countries called the Continental Free Trade Area (CFTA).
    
However, whilst these are steps in the right direction, there remain challenges in the implementation of these agreements. As Vimal Shah, CEO of Bidco Group, recently said:
    
“The challenge that has come up on this issue of trading with other countries is,     first, a lot of African countries have been changing policies quite often. Therefore, the predictability of economics, the predictability of where they're going, is     not always clear. No. 2, compliance levels. A lot of countries have varying degrees of compliance. Some are very compliant and some are not. So the trade practices in each country are different.”

Logistics

Logistics, cost of transport and cost of doing business in many African countries remain challenging. So having access to efficient logistics and distribution can significantly enhance an FMCG business. This is why Kellogg paid $450 million for a 50 percent stake in Nigeria-based Multipro, a food sales and distribution company owned by Tolaram in 2015. (Dentons advised Tolaram on this deal).
    
Another great example is Coca-Cola's strategy of getting its product to consumers. It has done this by providing individual vendors and kiosks with refrigerators and bicycles with coolers. It never ceases to amaze me as to how you can find Coke in the furthest corners of Africa. Most recently when I was in the remote Masoala peninsula in Madagascar, I was offered a bottle of Coke to quench my thirst. I did not have the heart to tell my host that I preferred water to Coke.

So what's the prognosis?

Looking at my crystal ball, I think that the FMCG sector in Africa will continue to grow and be a great source of deal flow for private equity, trade and other investors.  
    
The question is whether you can offer the right goods at the right price point and if you are able to deliver these goods efficiently. People want goods that improve their lives. Simplistically, if you can provide such goods at the right price and scale up, then the chances are that you will create a successful FMCG business and cash in when the PE and trade money men come to buy you out. So good luck!