Private Equity and the Produce Industry - Part 1: How PE Views Real Property in Valuing Produce Businesses”

Over the years, many grower/packers have strived to own a larger percentage of the land they farm, as a strategy to increase the value of their business.  By increasing control of product supply and the quality of the produce they pack and ship, they can improve customer relations by proving to be a reliable supplier.  Some produce wholesalers and distributors have backward-integrated into direct production or at least into contractual production for many of the same reasons.

With the general long-term value trend clearly pointing upward for quality farmland, this has been a sound strategy for produce business owners planning inter-generational transitions.  However, for owners that hope to sell their business to an outside party, it can have some unexpected implications, particularly when looking at Private Equity (PE) as a source of liquidity.  While there have been some notable exceptions in the Produce Industry, most PE firms prefer to invest in “asset-light” businesses that have minimal annual capital expenditures. They also often do not want to invest in farmland, as the returns require long holding periods and the risk associated with direct production is more than many are willing to stomach!  As I heard one PE firm put it, “It’s pretty hard to build a disease outbreak, a drought or a hailstorm into our financial models!” PE firms need to have some solid insight in maintainable cash flow to pay down debt used to leverage the transaction.  Generally, they look to make investments where they can add value by making operational improvements, and/or make some add-on acquisitions over a period of 3-7 years.

Obviously, it is the tangible and intangible attributes of the business that drives its value on exit, however, it also is impacted on how you sell the business.  Simply put, the more potential buyers, the more potential competition, the more potential bids and the higher the potential value when sold.  By building a business that attracts strong interest from the “typical” PE buyer, business owners open the door to healthy competition for the business when it is time to exit.  We often see “outliers” when running a competitive sale process, which can create great opportunities for business owners looking to maximize value.  Even if multiple offers come in at similar values, it gives owners choices on who to partner with if they decide to roll equity and provides leverage to negotiate other terms that may be equally important.
Of course, just because you own a lot of land, doesn’t mean a PE exit is out of the question.  As noted above, there are a select sub-set of PE investors that don’t operate on the typical model.  Some even focus exclusively on fully-integrated businesses they intend to hold on to indefinitely.
 
However, a more viable option for many, is to sell the farmland separately, or to retain it and lease it back to a new owner of the operating business. Good farmland is always in demand and can command strong valuations from other local growers.  It can even be sold to private investors or even REITs that are focused on long-term value appreciation.  
Either way, being flexible on including the farmland in a sale, or excluding it and leasing back to a new owner or selling it off separately, can be a smart way to generate stronger interest in your produce business from the PE community.
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Watch out for our next blog post “Private Equity and the Produce Industry - Part 2: Key Business Attributes that Drive Value in a Private Equity Recap”.

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