Consumer Goods and Retail: Who’s winning and who’s losing in the coronavirus

It is no secret that the retail sector was facing challenges before the coronavirus pandemic and the industry has been hit hard during quarantine with several chains filing for bankruptcy. Mergers and Acquisitions asked Duff & Phelps managing director Brian Little which subsectors will see an uptick and which ones will continue to struggle, and what M&A going forward will look like.

What is the biggest change you have seen in the consumer sector since the pandemic?
The Covid-19 pandemic has impacted the consumer in many ways. The biggest change that we’ve seen in the consumer sector since the pandemic has been the fundamental shift across consumer behavior, confidence, discretionary income and purchasing tendencies. Shelter-at-home orders and the mandated shutdown of non-essential businesses resulted in an unprecedented level of job losses and struggling businesses that dramatically altered consumer spending and consumer purchasing behavior within weeks.

Although this paradigm shift within the consumer landscape continues to evolve as we move through the pandemic—with selective reopening measures recently commencing—and new shopping habits start to solidify, permanent changes to consumer shopping behavior are likely to persist post-pandemic.

What types of brands or companies have emerged as winners, and who will see success?
Although the impact of Covid-19 has been broad, several subsectors have been more severely impacted than others, especially those that were facing headwinds prior to the pandemic, e.g., brick and mortar retail. However, certain subsectors, such as consumer staples (particularly diversified food/CPG companies and household supplies) and sporting goods (i.e., at-home fitness equipment) have performed well throughout the pandemic, as consumer shopping behavior shifted towards fulfilling basic needs vs. non-essential and discretionary items.

Within the apparel subsector, primarily driven by shelter-at-home and remote work, we have observed a rise in athleisure and loungewear among the top performing categories. Core basics and seasonless items have also tended to fare well. However, one of the main drivers of success for the winners within the consumer category has been the presence of a strong e-commerce channel coupled with an effective digital marketing/consumer engagement strategy. Companies and brands that have been able to provide staple/core items through an effective e-commerce channel and are supported by a strong balance sheet will most likely be resilient see success coming out of the pandemic.

Which sectors will struggle and see bankruptcies?
Brick-and-mortar retail has been hit hard. The retail industry was already facing some numerous challenges prior to the pandemic, driven primarily by a fundamental shift in consumer shopping behavior with the rise of e-commerce, influx of digitally-native brands and growth of big box stores. Now, with retail locations closed, a meaningful decline in revenue, and large amounts of debt and lease payments, the pandemic has not surprisingly hit retailers that were either already in (or about to be in) financial trouble. This is evident in the uptick in retail companies that have filed bankruptcy over the past few months.

What will be the biggest factor of growth for companies going forward?
For companies that make it through the other side, a big factor for growth—notwithstanding broader macroeconomic conditions—will be how consumer shopping behavior ultimately evolves and how companies adapt and respond to address this new consumer. We are already detecting a few market dynamics that are likely be here to stay, such as an increase in online shopping. Companies that can successfully develop an effective digitally-enabled channel strategy with strong consumer engagement, right-sized business operations and a healthy balance sheet will likely be best positioned for continued growth moving forward.

How are investors dealing with the challenges?
For most investors, any contemplated sale process of their portfolio companies has been put on hold or pushed out to 2021. Those who are currently undergoing an M&A process are likely experiencing some Covid-specific complexities, e.g., credit agreement provisions, Covid-related MAC clauses and normalizing for EBITDAC (earnings before interest, taxes, depreciation, amortization, and coronavirus) to name a few.

However, an abundance of private equity dry powder still exists and certain investors, including those who specialize in opportunistic and/or distressed M&A, are assessing the landscape in hopes of uncovering some buying opportunities, as the pandemic has created some mis-pricings. Others will look to place their bets on companies that fall into the more “resilient” categories that have been as stress-tested by this pandemic.

What is your outlook for M&A?
Although it is highly unlikely that we will see M&A activity rebound to pre-pandemic levels anytime in the near-term, we have observed a slow but gradual uptick in activity across M&A over the past few months. Strategic acquirors are currently re-assessing their priorities and as they look to divest non-core businesses to raise cash, there will likely be an increase in carve-out activity during 2H 2020 and 2021. Additionally, distressed acquisition opportunities, restructuring-driven sales and accelerated divestitures of under-performing portfolio companies will also drive M&A activity going into 2021. There will, of course, be additional restructuring and reorganizational activity that takes place during 2H 2020 as the Coronavirus Aid, Relief, and Economic Security, or CARES, Act driven financial support dries out which will place distress back on companies and test their ability to survive.