Dealflow in the industrials space is cooling, but pricing remains robust due to a flight to quality. Constantine Biller, International Head of Industrials and Chemicals at Clearwater International, talks to Unquote about trends in one of Europe’s core sectors.
The pace of private equity-backed buy-outs has slowed in the second quarter of 2019, according to figures from Unquote Data, with volumes being hit especially hard in Europe’s powerhouse markets of the UK, France and Germany. And this appears to be reflected in the activity levels seen in the industrials & chemicals sectors. Until now, the impact of Brexit on the private equity market has been much discussed, but scarcely observed - it seems that this might now be changing.
However, the impact of Brexit on the flow of deal processes is perhaps being mitigated by other factors, most notably the pressure felt by cash-rich corporates and private equity sponsors alike to deploy capital.
Prices buoyed by focus on quality
Given the ‘old economy’ nature of many businesses in the industrials sector, it is reasonable to assume that average pricing would typically fall below many other industry groups; however, the Multiples Heatmap data shows that multiples actually remain robust in the sector, at 9.5x in the 12 months to the end of Q2 2019. A focus among buyers on premium assets is the main driver here, as Biller explains: “The transactions completing now tend to involve the higher quality assets, rather than the smaller traditional businesses; for these high-quality businesses, competition is driving the pricing.”
In many cases in this area, the quality element is strongly associated with progress made by integrating modern, ‘disruptive’ technologies into more traditional manufacturing or industrial businesses. “There is undoubtedly very strong appetite for assets that have moved with the times. Companies that have made progress within the digitalisation of manufacturing – the ‘Internet of Things (IoT)’ - are highly appealing,” says Biller.
Companies that have made progress within the Internet of Things are highly appealing.
Other similar draws, especially in the automotive sector, are developments in electrification and connectivity. A high-quality manufacturing operation now is one where its own processes are heavily automated. Automation brings huge efficiencies and greater connectivity means that production activities are both more responsive to customer demand and better-linked with supply chains. “Companies that have not made these kinds of advances are going to be a lot less attractive to prospective buyers: it can take years and huge investment to put them in place, which effectively rules out most traditional private equity buyers.”
Niche private equity strategies
While the core private equity sponsors are more likely to target the premium assets in the sector, creating highly competitive acquisition processes, there is a growing number of more specialist financial bidders, which are targeting more complex industrials deals in search of more attractive entry multiples. The highly sector-focused approach of family office or balance sheet investors such as Rubicon Partners and Germany’s Aurelius Group is increasingly visible. “Some of the more specialist investors are better set up to seek out the more difficult deals such as carve-outs or distress situations,” says Biller. “They are often long-term players, without the constraints of the shorter exit horizons of their traditional counterparts, and they are well-placed to deal with complex carve-outs or businesses facing issues – for instance, the slow adoption of digitalisation.”
Another area in which the more specialist sector-led and long-term approach may pay dividends is in combating cultural issues. A theme that is common across the industrials space is that owner/managers coming from engineering or manufacturing backgrounds seem inherently more conservative than their counterparts in other sectors when it comes to selling their businesses and M&A in general. As Biller explains: “They want their businesses to go to exactly the right owner and they want new owners that will guarantee the ongoing investment into and development of their business. It is very possible that traditional private equity investors suffer from a perception among these industrial entrepreneurs that they don’t come with the right engineering pedigree.”