The Asian pet industry
The Asian pet industry
The rise of COVID-era "fur babies". Estimated reading time: 14 mins
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The COVID-19 pandemic caused widespread adoption of dogs and cats. Forced to work from home, many sought the companionship of a pet, causing the industry to grow.
To get a sense of the popularity of pets, look at the number of Google search queries for “How to get a dog” and “How to get a cat”. As you can tell, the interest in pets has gone up significantly in the past few years:
This growth offers opportunities. Pets are not cheap, and your money certainly ends somewhere along the supply chain.
In this post, I will try to understand the pet care industry, discuss some key trends and dig into the publicly traded companies in the sector.
Table of contents
1. Introduction to the pet care industry
2. Industry trends
2.1. Humanization of pets
2.2. Natural pet food
2.3. Health problems
2.4. Pet insurance
2.5. Pet tech
2.6. E-commerce
2.7. The COVID-19 pandemic
3. Investable universe of stocks
3.1. Pet retailers
3.2. Pet food companies
3.3. Pet health companies
3.4. Pet services
4. Conclusions1. Introduction to the pet care industry
Humans have kept pets for thousands of years, but initially as hunting companions, for protection and for pest control.
Only by the 19th century did pets start to be valued for companionship and emotional support. For example, Queen Victoria was famously a dog lover and popularized the notion that pets should be seen as companions.
The “industry”, so to speak, grew from around the year 1900, when food companies started making specialized pet foods. Later on, we saw other services such as veterinary clinics, grooming services and, more recently, pet insurance.
In the United States, there are currently 180 million pets and in China around 100 million. The vast majority of them are either dogs or cats. Less popular choices include fishes, hamsters, birds and rodents.
The following chart gives you a sense of underlying growth in the industry:
As you can tell from the chart, the total number of dogs and cats worldwide is increasing at a rate of 2-3% per year. And growth is particularly strong for cats since they are more independent and require less attention.
Geographically, China has been the fastest-growing market, followed by Europe, the Middle East & Africa. This is due to the much lower penetration rates in China. In the United States, the number of pets per household is already 67% compared to just 26% in South Korea and 17% in China. Asia is where the growth opportunity is.
According to the following chart, China’s pet care industry grew by an astounding 31% per year in the 2010s, compared to low-single digits in the US and Europe.
So, what are the driving forces behind this newfound interest in pets? In my view, they include:
A later marriage age: This leads to fewer kids, more available space and more disposable income to spend on pets.
Single-person households: Singles are the largest pet-owner group in most countries, presumably because pets provide companionship.
Social media influence: this is subjective, but I believe that sharing images and videos of cute pets inspires people to adopt pets on their own.
Better support services: the ability to send your pet to short-term boarding services when you travel makes it easier to raise a pet on your own without the help of a larger family.
In any case, this is how I would categorise the industry: by dividing it into the five categories of food, accessories, services, medical and insurance.
If you look at the sales volumes for each category, food represents the majority of spending. It’s a US$140 billion market, with the United States being the single largest portion of it, followed by Europe, Japan and Brazil. And between dogs and cats, dog food represents roughly 2/3 of it, with cats the rest.
The second most important category is medical expenses, some of which tend to be paid for via insurance. But pet owners also spend money on grooming, clothing, toys, collars, boarding services, etc.
2. Industry trends
To understand “where the puck is going", I like to review the major trends in the industry. In short, these revolve around us increasingly treating pets as humans and tech such as e-commerce and smart collars.
2.1. Humanization of pets
According to a survey by YouGov, 88% of pet owners in America consider pets part of their families, and 66% let them sleep in their beds. This is part of a broader trend towards treating pets like humans, also known as “humanization”.
This has implications for the demand for premium pet food and services such as daycare, grooming, etc.
There’s also a broader shift in society. In most parts of Asia, pets are still not allowed on public transport, shopping malls or normal taxis, but this is improving. As ownership becomes simpler, I think the demand for pets will also increase.
2.2. Natural pet food
An extension of the humanization trend is the demand for premium pet foods.
In the past, dogs and cats primarily ate dry pet food known as “kibble”. These are typically coarsely ground meal or grain, often with meat and vegetables added on top of additives into pellet-sized pieces. Kibble is cheap and easy to store.
But in the past few decades, more attention has been paid to healthier pet foods, typically raw meat with bones or vegetarian food that isn’t as processed. A compromise option is what’s known as “kibble plus” - a mixture of kibble and pieces of freeze-dried meat and vegetables.
From what I can tell, the natural pet food market is growing fast, easily in the double digits for the major markets except the United States, where penetration rates are already high.
2.3. Health problems
Due to processed food, pet obesity has become a real problem. It’s led to health problems that are very similar to what humans are encountering: diabetes, gastrointestinal issues, urinary tract problems, issues with the bladder, etc. For example, in China, roughly half of all dogs and cats have at least one health problem. And that number keeps rising every year.
For that reason, the veterinary clinic market is now flourishing. They’ll do preventative screenings, undergo surgeries, and even prescribe food plans for specific conditions.
2.4. Pet insurance
Pet insurance is a relatively new phenomenon. It’s taken off in the past few decades, but it remains rare in most parts of the world.
Sweden leads with about 40% of pets insured, followed by the UK at 25% and the US at only 3%. In Asia, Japan leads with 12%, while China’s pet insurance penetration is said to be around 1%.
This disparity is because the cost of care and the attractiveness of individual plans vary drastically. From what I can tell, pet owners typically don’t see the value of pet insurance until disaster strikes, and they’re presented with large bills from veterinarians. So, the attitude towards pet insurance may change slowly as pet owners realize the risks involved.
On the surface, pet insurance is attractive, with loss ratios typically below 55% vs the property & casual industry’s typical 60%. But the problem is acquiring customers, which can be costly. In some markets, pet insurers have solved the problem by building relationships with veterinarians and pet shops and, in others, through online advertising.
2.5. Pet tech
Much of the innovation in pet technology has been driven by smartphone connectivity. For example, companies such as Dogness produce cameras that allow you to watch your pet on your smartphone and communicate with it.
A similar product is a smart feeding system that dispenses food or water at scheduled times or through a smartphone app. These systems ensure that pets don’t overeat and that owners do not need to be physically present to attend to their pets.
When it comes to trackers, Apple AirTags are by far the most popular. GPS connectivity also enables virtual fences, making sure dogs are kept within a certain area, such as your backyard.
2.6. E-commerce
While not necessarily regarded as pet tech, e-commerce has been another major trend.
It’s more convenient to deliver heavy bags of pet foods straight to the door rather than carrying them alone.
The selection of products is greater online than in a typical offline retail store.
But there’s a generational gap in purchasing habits. Studies show that older people tend to buy pet supplies in stores, while younger individuals default to buying online.
Somewhat related to this is the online veterinary services. For example, in China, JD.com has set up a scheme to train and certify veterinarians for a service called Ringpai. This service enables users to call veterinarians for advice about their pets. And the veterinarian can then prescribe OTC medicine that the users can then buy on JD’s platform.
2.7. The COVID-19 pandemic
COVID-19 caused the overall demand for pets to rise. People sought companionship during the lockdown periods as pet ownership is associated with better mental health.
But another pandemic effect was decreased demand for pet bathing, grooming, training and daycare services. The number of pet stores also dropped drastically as leases expired and retail chains restructured their businesses. That means the supply of offline retail stores is tighter than it used to be.
While COVID-19 seems to be a one-off event, the fact is that we now have a much larger number of pets being taken care of, and that has permanent implications for the demand for recurring services such as pet food, services and insurance.
But then again, consumer habits may have permanently shifted during the pandemic towards online purchases.
3. Investable universe of stocks
When I dug into the industry over the past few days, I realized that most listed companies are based in the United States or Europe. But I’ve also found several pet-related companies in Asia, for example, pet food producers in Thailand and a pet insurance company in Japan. So let’s dig into it.
3.1. Pet retailers
In the United States, Chewy is the biggest e-commerce seller focused on pet products. But the major retail giants such as Amazon, Walmart and Target also have a large presence in the category. Rural retailer Tractor Supply also sells food, supplies and accessories for pets. Petco operates specialist offline pet stores selling pet food, grooming supplies, and even the ability to acquire pets directly from them. Central Garden & Pet sells various lawn & garden products and pet supplies such as pet food, treats, bedding, grooming supplies, etc.
PetMed Express is an online pet pharmacy that sells prescription and non-prescription medication for pets and other pet-related products, such as food and grooming supplies.
In the United Kingdom, Pets at Home is another pet care retail chain selling various pet supplies, including food, toys, bedding, etc. They also provide services like grooming adoption from local animal shelters and a veterinary clinic chain.
Reviewing the valuation multiples of the global pet retailers, Chewy stands out as a market leader now trading at a discounted valuation of just 0.73x sales, which implies a 15x EV/EBIT at 5% normalised margins. There’s a good chance that the plateauing in user growth is due to the post-COVID cliff in demand and that growth will at one point resume.
3.2. Pet food companies
In the United States, the largest brands include Nestlé’s Purina and Friskies, Mars Corporation’s Pedigree and Royal Canin, General Mill’s Blue Buffalo, Greenies and Hill’s. Among the listed entities, Freshpet produces fresh, refrigerated pet food, but it’s not profitable. Spectrum Brands acquired several pet-related products through the acquisition of United Pet Group, including Nature’s Miracle, FURminator and food brand Dingo. BARK is a de-SPAC’d entity that sells a monthly subscription service with dog treats, but the company remains unproven in terms of profitability. Finally, Oil-Dri Corporation of America sells cat litter - a category that’s probably losing market share.
In Europe, Nestlé has many business areas, but a major driver of growth in the past decade has come from its pet care business, which sells pet food under the Purina, Felix and Friskies brand names.
In China, the top pet food companies include Mars Corporation’s Royal Canin and domestic producers Gambol’s Myfoodie and Jiangsu-based Crazy Dog. Of those three, Gambol is the only listed Chinese pet food producer I’ve identified. Unfortunately, it trades at the typically high P/E ratios we’ve come to associate with Chinese growth companies.
In Japan, Unicharm sells pet diapers, pet foods, and accessories. The private companies MG Group, Petline, Nippon Petfood, and DoggyMan are also pet food producers. So, there are not many listed pet food producers in Japan.
In Thailand, Thai Union’s subsidiary I-Tail sells canned tuna and pet food for export to overseas clients, partly through its subsidiary US Pet Nutrition. Also, in Thailand, you have Perfect Companion, a private pet food company owned by Charoen Pokphand. Tropical Canning sells canned food products, including non-dry pet food. Finally, Asian Alliance makes pet food under the Monchou, Hajiko and PRO brand names.
Looking at the valuation multiples, Asian Alliance is one of the pure-play pet food producers with reasonably low valuation multiples. It’s had operating margins of 11% in the past, giving it a normalised EV/EBIT of around 11x.
3.3. Pet health companies
In the United States, there are a large number of pharmaceutical companies with animal health divisions. One example is Merck, whose division MSD Animal Health develops drugs and vaccines for livestock and pets. Zoetis is smaller but more of a pure play. Idexx Laboratories sells diagnostic tests and information management tools for veterinary clinics. Elanco Animal Health is another drug company developing pharmaceuticals and vaccines that acquired Bayer’s animal health division. Neogen Corp produces food safety tests and diagnostics for animal disease detection and vaccines. Patterson Companies is a distributor of dental supplies and equipment to dental offices and veterinarians. Phibro Animal Health produces nutrition products for feed additives, vaccines, and medications for pets and livestock. Zomedica is another producer of diagnostic tests sold to veterinarians.
American company PetIQ operates a set network of retail stores and veterinary clinics under the VIP Petcare brand name. Services include vaccinations, parasite control, and periodic check-ups. PetIQ also produces some OTC medications and supplements.
Virbac is a French company focusing on both animal health and livestock medicines and vaccines and also anti-parasitic treatments to prevent fleas, ticks and worms. Another French company, Vetoquinol, has medications for parasitic infections.
Without knowing much about the pharmaceuticals industry, if I were in your position, I would probably spend time understanding Merck, given its reasonable P/E, liquidity and strong position in animal health and many other therapeutical areas.
3.4. Pet services
In the North American pet insurance industry, Nationwide remains the market leader, followed by Canada-based Trupanion, which has been plagued by poor profitability. Japan’s Anicom is also a pure-play pet insurance provider with a 10% return on equity and a market leader domestically.
The other American-listed companies in the pet services industry are somewhat marginal. Rover Group went public through a SPAC, isn’t profitable, and its core pet services matching platform seems superfluous in the face of competition from Nextdoor and others. China’s Dogness produces dog tech products but doesn’t seem to have a large presence in the domestic market, at least not in the third-party sources I’ve used to cross-check its scale and profitability.
The only stock that stands out to me is pet insurance company Anicom, whose 17.6x P/E and its track record of steady, though somewhat low, growth. The share price has come down significantly since the initial pet demand bump during COVID-19. It seems to compound capital around 10% per year. A friend of the publication Global Stock Picking wrote an excellent summary of Anicom last year on his blog here.
4. Conclusion
I find the pet industry one of the areas worth digging into. There’s a clear trend towards higher spending on pets. They provide companionship - or, more specifically, oxytocin - and that’s valuable in this age of increasing isolation.
The problem is that I’m not the only person who sees value in the sector. Valuation multiples in the sector are high. But gun to my head, I feel inclined to spend more time on Thailand’s Asian Alliance and Japan’s Anicom. If I had a global mandate, I would also try to understand whether short-sellers are right about Chewy because it is a market leader, and the share price has fallen.
