Consumer goods firms should go shopping

TRADITIONALLY, investors looking for consistent returns could reliably turn to consumer products companies to put their money to work. And why not? These companies had a formula for creating profitable growth: Delight consumers with innovations, expand into exciting new international markets and add to their stables by buying up-and-coming new brands. But something changed. Most consumer products companies recently have adopted the fashionable trend of stepping up share repurchases and dividends. According to a Bloomberg analysis in the fall of 2014, S&P 500 companies were on track to spend 95 per cent of their collective profits in 2014 on dividends and share buybacks, with consumer goods companies fully active.

The trouble is, this activity may help short-term earnings per share, but in the long term it does nothing to deliver above-average total shareholder returns (TSR), defined as stock price changes assuming reinvestment of cash dividends. Bain & Company analysis shows that growing operating earnings is the only way to spur long-term TSR. And the one thing that spurs operating earnings growth: systematic reinvestment into the business.

Like their counterparts in other industries, many consumer products companies now sit on record levels of cash, and investing in M&A happens to be a particularly attractive option for them. In Bain's study of 1,600 companies across all industries, we found that the rewards of M&A are greater for consumer products companies than for the average company. Consumer products companies that engaged in M&A from 2000 through 2010 generated average annual TSR of 7.4 per cent, while the average for all companies was 4.8 per cent. Our research also determined that the bigger and more frequent the deals, the better the long-term results. Large-scale and frequent acquirers outperform companies that occasionally engage in M&A or sit on the sidelines, achieving an average annual TSR of 9.5 per cent.

Leading acquirers develop what we call Repeatable Models for M&A. They create a learning system that helps them build a unique, proprietary set of M&A skills and capabilities that are deeply rooted in their strategy and applied repeatedly to new deals. They sustain investment in their M&A capability, much as if they were building a marketing or manufacturing function from scratch.

These M&A leaders maintain a clear understanding of how M&A will support their growth strategy in alignment with their organic efforts, not only in where to play but also in how to win. They search hard for targets that will add to their operating profit, fuelling balanced growth. They pursue nearly as many "scope" deals as "scale" deals, moving into adjacent markets as well as expanding their share of existing markets. And these companies create a deal thesis - developed and applied in the context of their overall strategy - and apply a unique value-creation plan that allows them to pay more but get better returns out of a deal than their competition.

For example, some acquirers focus on a proprietary way of optimising costs. Others may have a unique way to scale innovations. But it is always the same core capability in their organic strategy that they apply to M&A.

Successful acquirers also plan carefully for merger integration, determining what must be integrated and what can be kept separate, based on where they expect to create value. Finally, they mobilise to capture value, quickly nailing the short list of critical actions and effectively executing the much longer list of broader integration tasks.

Companies need to put five elements in place to build this kind of M&A capability.

As consumer goods companies plot paths for their futures, they know that nothing beats a mix of organic and inorganic growth. Companies that build Repeatable Models that systematically rely on - and reinforce - their unique capabilities will achieve the best results. Instead of using their cash to repurchase shares for short-term gains, they're reinvesting in the business to build companies that will grow and thrive for decades.