September 7, 2007

By Mark Calvey
San Francisco Business Times

TSG Consumer Partners sees an opportunity to replicate the success it had with Glaceau's Vitamin Water, which it sold last year for $677 million.

The top-performing San Francisco private equity firm has quietly invested in CytoSport, the Benicia maker of Muscle Milk and Cytomax. TSG acquired a minority stake in the company.

Founder Greg Pickett remains CEO and his son Mike is president of the company the two founded in 1998.

"We see an opportunity on the same scale as Vitamin Water," said TSG CEO Chuck Esserman. The firm, for instance, is working with some of the same distributors that got Smart Water onto store shelves to deepen the distribution of CytoSport's products.

Muscle Milk is a protein-based meal replacement beverage. The company's Cytomax contains a proprietary complex carbohydrate designed to provide fuel to the body for a longer period than carbs in rival beverages.

In an era of controversy over performance-enhancing drugs, Greg Pickett tells consumers that his company's dietary supplements sport accurate labeling and legitimate ingredients.

CytoSport and TSG are harnessing concerns over childhood obesity to promote its range of products that they see as a better alternative to high-sugar chocolate milk mixes.

TSG said it's working with CytoSport to develop packaging for its Muscle Milk that's closer to the milk carton ubiquitous in American households instead of the current package that's found more often in Europe.

TSG is also moving into the restaurant business, territory long known for its land mines.

The private equity firm acquired a 70 percent stake in Irvine-based Yard House USA Inc. for an undisclosed sum. TheDeal.com reported that the firm acquired its stake for less than $200 million.

TSG will work with founder and CEO Steele Platt to take the casual dining concept national to compete with rivals such as the Cheesecake Factory.

TSG Managing Director Hadley Mullin said the firm was attracted to Yard House's high sales volume -- $8.5 million average unit volume per location per year -- that gets a big boost from the more than 100 beers on tap.

Yard House, founded in 1996, operates 16 locations in seven states, generating $136 million in annual sales. Yard House sales have grown at a compounded rate of more than 30 percent over the past five years.

The restaurant's extensive menu reduces what Mullin calls the "veto factor," which occurs when one member of a dinner party nixes a restaurant suggestion.

The Yard House deal involved $110 million in debt financing, TheDeal.com reported. That's a lower level of debt than typically associated with private equity deals, especially of recent vintage. Wells Fargo syndicated the debt among other lenders, with another firm reportedly deciding not to work with Wells on the syndication when the credit markets deteriorated in recent weeks.

Esserman is confident the firm's newest portfolio companies won't end the firm's track record of never having an unprofitable deal. That performance has generated an annual return of 59 percent since the firm's founding as the Shansby Group in 1987.

"We've had three tremendous successes over the last nine months -- Vitamin Water, Smart Balance and PureOlogy," said Jamie O'Hara, a TSG managing director. The three companies had a total market value of $230 million when TSG invested in them. That figure grew to $3.1 billion at the time the companies were sold, according to figures provided by the firm.The firm's average portfolio company in its fourth fund generated 30 percent annual growth in sales over an average investment period of three years.

The firm recently raised its fifth fund, giving it $1.5 billion of capital under management. Given the firm's track record, it's not surprising that TSG turned away a lot of money.

"We had demand for roughly over a billion more than we took in," Esserman said.