KEY ARTICLE TAKEAWAYS
Understand why investors like consumer products companies
Learn which specific factors make consumer products companies more valuable than their peers
Learn the measurements and ratios investors will pay close attention to
Why do investors like consumer products companies?
Consumer products companies come in many shapes and sizes. Consumer products include food and beverage, beauty, nutritional supplements, outdoor gear, household items, and many other products that are sold to consumers either through traditional retail channels or increasingly direct-to-consumer via online channels.
Investors have had lots of success investing in companies with strong consumer brands to accelerate growth, improve margins, and improve cash flow.
There are lots of great success stories like Crocs, Otterbox, Evol, and many others where outside capital allowed the company to drive sales, marketing and new product innovation.
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A company’s strong brand provides competitive differentiation and a strategic “moat” around the business that insulates it from competitive pressures.
The formula for accelerating growth for a proven consumer brand with a strong customer following is clear – when companies have a strong brand and are looking for outside capital, they are likely to generate a lot of investor interest and premium valuations.
Retail v. direct-to-consumer
Historically, most consumer products found their way to customers through traditional brick-and-mortar retail outlets like grocery stores, big box retailers, specialty retailers and mass distribution channels like Target or Walmart. For young brands, retailers could (and still do) exert significant leverage on pricing, promotions and other terms that can make selling products unprofitable. In addition, retailers constantly make changes to what is sold on their shelves, which can be disruptive to a consumer products company.
With the advent of e-commerce, consumer product companies can now leverage access to customers through channels like Amazon, and increasingly, consumer product companies are building their own online presence and selling directly to consumers.
Companies successfully selling directly to consumers are especially attractive because their margins are higher, they are not subject to the whims of retailers, and they have direct access to and communication with their end users.
Successful direct-to-consumer companies attract some of the highest multiples in the consumer products sector.
General value drivers
Revenue growth
Consumer products companies that show strong growth trends will be more highly valued. However, not all growth is viewed equally. Growth in existing core products will be more attractive than growth coming exclusively through new products. Same store sales growth will be more valuable than growth coming from the addition of new channels.
Existing customer and channel growth is more attractive because it is less risky than growth that has to come from new products or new channels or points of distribution.
Existing product growth and new product introductions
The most valuable consumer products companies will show strong growth trends in their core product lines and will show they can generate rapid growth with newly introduced SKUs.
Being able to show growth across both existing and new products increases the predictability of future revenues. Flat or declining core product sales will be a red flag for investors – it suggests that future growth will be harder to come by because it must come from unproven new products.
Gross margins
Consumer products companies should have gross margins of at least 35-40% (and preferably higher than 50%) in order to cover marketing, sales, promotion and advertising expenses to allow the company to scale. If gross margins are lower than 35%, and there is not a clear path to increasing those margins (such as through scale), accelerated growth will require additional capital and be less attractive to an investor.
Specific value drivers for selling through retail
For consumer products companies selling through retail, investors will review several key metrics:
Same store sales growth
As discussed above, investors want to see strong sales growth in existing stores with existing SKUs – the stronger the better. This is the least risky way for a company to grow and requires the least amount of additional capital.
Sales per point of distribution
Investors will compare overall sales per point of distribution to the company’s competition. Higher sales per point of distribution will be more attractive to retailers, which means longer staying power for a consumer brand. If a company’s sales per point of distribution are low compared to competitors, it is more likely to be removed by the retailer in the future, putting those revenues in jeopardy.
Sales velocity by SKU/product category
Investors want to see strong and growing sales velocity for each SKU/product category. Weak sales velocity indicated weak consumer demand, which increases the risk of the retailer removing the products from its shelves.
Distribution
Investors prefer to see deeper penetration in fewer stores than shallower penetration across a larger number of stores.
Smaller sales per store makes the product less attractive to retailers, which increases the risk of being replaced by competitive products.
In-line placement
Investors will value in-line placements of products much more highly than periodic or promotional placements. In-line placement decisions are typically made at longer intervals (a year in many cases), and give the product time to mature and earn staying power, whereas periodic placements or promotions can be fleeting and less predictable.
Specific value drivers for direct-to-consumer sales
For consumer products companies selling directly to the consumer (typically online), investors will look at different metrics than traditional retail metrics.
Lifetime value of a customer compared to the cost to acquire a customer
What does the company have to spend on advertising, marketing, sales and other costs to attract a new customer? What is the lifetime value of that customer in terms of margin dollars? These require solid financial and accounting systems in place, but in general, investors want to see the lifetime value of the customer be more than 4x the cost to acquire the customer.
Average order value
What is the average dollar value of an order, and is this average value increasing or decreasing over time? Investors want to see higher average order values that are growing. This indicates customers are buying more each time they are engaging with the company, which reflects stronger customer brand preferences and lower sales costs as a percentage of revenue.
Online advertising metrics
What is the company’s cost-per-click for online advertising, its cost-per-visitor, and its conversion rate of visitors to purchasers once they are on the site? Having positive trends in these metrics over time indicate the company’s overall sales costs will be decreasing as a percentage of sales, increasing overall profitability. A different way to calculate this is to look at return on advertising spend (“ROAS”).
Customer demographics
Having higher income earners/spenders is desirable. This means the company’s customer base is less prone to decreasing spending during economic recessions, and has the capacity to increase average spending over time on the company’s products.
Engagement rates
A direct-to-consumer brand will rely heavily on social media to promote its brand and products.
Understanding how engaged end users are, the number of likes, posts, shares, views, etc. will help an investor gauge the strength of a company’s online presence and brand. Tracking these metrics over time will also tell a story about how effective the company’s online strategies are performing.
Summary
Young consumer products companies should review the key metrics investors will be most interested in, and develop financial and accounting systems to be able to track and trend these metrics over time. We see many companies who have not invested in the appropriate infrastructure struggle to tell their story in a convincing way because they simply don’t have the data.
If you are interested in learning more about how your company might be perceived by investors, please reach out and we are happy to discuss this with you (chris@classvipartners.com).
In addition, if you would like to get an objective assessment of your business , click on the red banner above to use our CoPilot Assessment. CoPilot will help you identify what specific risks your company has that decrease company value. CoPilot identifies over 90 different types of potential risks a company could have that will make the business less valuable in the eyes of an investor. Get the test ahead of time and build value today with CoPilot.
AUTHORED BY:
Chris Younger | Managing Director | Class VI Securities, LLC | Class VI Family Office, LLC
Chris co-founded Class VI in 2005 with a mission to Enable the Entrepreneurial Spirit. Sharing a passion for what entrepreneurs mean to our community, Chris and his business partner David Tolson felt they could do a better job for business owners and have had a great time helping clients ever since.
Prior to Class VI, Chris spent more than 20 years gaining experience in executive management, marketing, sales, law, and mergers and acquisitions.