by Sarah Max
Here’s something investors should ponder while sipping their oat milk lattes, snacking on a protein bar, or biting into plant-based burgers: Behind most modern-day food staples is a thriving food-flavors and ingredients market that is benefiting from a convergence of trends.
“A lot of attention is focused on food commodities, but what’s kind of missed is some of the critical ingredients in food products,” says Glen Clarke, a managing director in Baird’s global investment banking team, where he leads the firm's Food & Beverage practice. “This is a $70 billion industry and growing more than 5% a year.”
It also tends to be highly profitable, with EBITDA margins ranging from 10% to 15% on the low end, to upward of 40% to 50% for companies with patented products or proprietary techniques in growing categories—plant-based and natural foods top among them.
While Clarke and his team are focused primarily on privately held companies in the process of mergers and acquisitions, investors who prefer to play the public markets should familiarize themselves with some of the largest companies in this space, including: Switzerland-based Givaudan SA (GVDNY); Ingredion (INGR) and International Flavors & Fragrances (IFF) in America; Symrise (SY1.Germany) in Germany; and Kerry Group (KRZ.Ireland) in Ireland.
“I call them the ‘arms dealers’ of the food industry,” says Sammy Simnegar, portfolio manager of the $4.3 billion Fidelity International Capital Appreciation fund.
Pricing Power Baked In
Simnegar first got a hankering for flavor companies after noticing that they were trading at significant discounts to the large food companies they were supplying—and yet the underlying business models are often better.
When large food companies, such as Nestle, Unilever, and Kraft Heinz, want to differentiate themselves, they need to launch new products and compete for increasingly crowded shelf space. Flavor companies can win no matter what’s happening in the grocery store, Simnegar says, because they supply the multinationals and the emerging products.
They also enjoy high barriers to entry and pricing power, courtesy of consumers’ taste buds. “If you’re a food company, the last thing they want to do is change suppliers and disrupt the flavor profile of that product,” Clarke says.
Plant-Based Food Frenzy
One of the biggest food booms in recent years has been in plant-based products—alternatives for everything from coffee creamer to hamburger patties.
Food ingredient companies play no small role in giving vegan burgers the right texture or making oat milk seem creamy. As demand for plant-based products grows globally, the companies working behind the scenes stand to benefit in a big way, Clarke adds.
New Labeling, New Opportunities
Consumers are trying to be healthier and are tuned in to food sensitivities like never before. This has given rise to the trend of “clean” labels—symbols indicating that products are certified vegan, gluten free, or non-GMO, to name a few. In many cases, food makers partner with ingredients companies that can help deliver on these claims.
Keeping an Eye on Valuations
The investment outlooks for food companies are as nuanced as the flavors they concoct, but broadly speaking, the category no longer trades at a discount to global food behemoths. On the contrary, the better names are trading at significant premiums to the food industry overall.
“Fundamentally, I like them just as much as I did before, maybe even more so, but current valuations reflect that,” Simnegar says.
Bottom line: The long-term growth outlook for the flavor and ingredients market is solid, but investors should be mindful of price before loading up their carts at current valuations.