The Intersection of Manufacturing and Private Equity: Signs Point to an Active Year Ahead
The manufacturing and wholesale distribution (M&WD) industry has experienced solid output to date in 2014 with capacity utilization rates (a key measurement of how intensely firms use resources) reaching 79.2%, the highest rate since June 2008, and industrial production has also continued to surpass analysts’ expectations in February and March 2014. The private equity (PE) industry continues to gain momentum in transaction activity. Financial performance and investment and acquisition momentum in both the M&WD and PE industries has steadily increased to levels witnessed prior to the financial crisis; this has translated to an uptick in PE interest in M&WD companies. So, what aspect of the industry makes it attractive to PE firms, how can a M&WD company make itself a more attractive target, and what makes an increase in PE activity beneficial to M&WD companies?
Businesses with downside risk protection, including maintenance, repair, and operations (MRO) companies, are especially desirable as they are less susceptible to business cycles than their new product manufacturing counterparts. The limited cyclical nature of these businesses provides an attractive investment theory to investors and acquirers as they provide more visibility and consistency in financial performance. Sub-sectors that remain poised for the strongest level of growth this year given current levels of product demand include medical instrument and supply manufacturing, aerospace and defense, and natural gas and electricity distribution.
As PE firms seek to identify both new platform investments as well as add-on acquisitions for existing portfolio companies these companies are generating significant interest. Reed Anderson, Director with the investment bank Houlihan Lokey and head of their Industrial Distribution practice, expands on what makes the distribution sector attractive to PE firms. “Distribution businesses present an ideal business model for PE firms. They offer a boatload of synergies on sourcing cost.”
PE Investment, Not Just for the Big Boys Anymore
As PE activity surrounding add-on transactions continues to grow, accounting for a record high of 53% of all PE buyout deals in 2013, the fragmented nature of the M&WD industry paves the way for an abundance of add-on acquisitions. While smaller companies typically carry a greater level of investment risk for PE firms, the significant number of niche companies within M&WD also makes the industry an attractive target for add-on deals where opportunities for synergies are ample.
Concurrently, heightened interest from PE in manufacturing is welcome news to an industry that can greatly benefit from increased access to capital for future expansion and innovative growth. Many PE firms have developed substantial industry subject matter expertise within the broader M&WD sector and specific sub-sectors such as chemicals, aerospace and defense, and food and beverage manufacturing / distribution. This industry knowledge coupled with extensive relationships within the industries enable a PE firm to offer not solely financial capital to an M&WD company, but also intellectual capital and management support, thereby encouraging profitability and strengthening the company’s value to the customer.
For middle-market M&WD companies seeking to attract PE, it is critical to be prepared to present a focused business plan that details how an anticipated return will be realized, as well as proactively anticipating and addressing any obvious company-specific issues, followed by executing on every step involved in the capital raising process. Key areas of focus to market and prepare your business for PE investment include:
- Understand and communicate your differentiators in the market (e.g., proprietary manufacturing processes, unique product or service offering, financial visibility, customer relationships).
- Ensure that your ‘financial house’ is in order. Do you have audited financial statements, is your forecast up to date, can you sufficiently describe the business drivers that will allow you to meet your forecasts?
- Identify what you are looking for. Are you seeking investment or expansion capital, a strategic partner, succession planning? Be able to successfully and thoroughly communicate your rationale for pursuing a transaction.
What Does CohnReznick Think?
For any M&WD company that may be considering a liquidity event today or in the future, now is the time to at least get the dialogue started with a PE firm; getting educated on the process and the value that can be derived from such a relationship is invaluable and should not be ignored or delayed. The M&WD industry is highly coveted by the PE community and the markets are hot. As such, we recommend that owners and management of M&WD companies give strong consideration to building relationships with PE firms.
For more information, please contact Alan Wolfson, CohnReznick Partner and Manufacturing and Wholesale Distribution Industry Practice Leader, at 646-254-7416, or Jeremy Swan, Principal, Private Equity and Venture Capital Industry Practice, at 646-625-5716.
To learn more about CohnReznick’s Manufacturing and Wholesale Distribution Industry Practice, visit our website.
This has been prepared for information purposes and general guidance only and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its members, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.