M&A East: Add-On Deals

The Merger Verger just returned from M&A East, perhaps the preeminent middle market acquisition event of the year in this part of the world. M&A East is put on by the Philadelphia chapter of the Association for Corporate Growth and is very well done and very well attended.

While most of the attendees come for the rich networking opportunities, there are also work sessions and presentations … actual “content.”  The Merger Verger attended one roundtable session dealing with the large role that the Buy-and-Build strategy and add-on deals are playing increasingly in the private equity world.

Building BlocksWe noted a number of interesting or useful points:

  • The Buy-and-Build investment strategy has both the advantages and disadvantages of focus: wisdom, experience and increasing market power and multiple arbitrage on the upside; concentration and lack of diversity on the down side. Pick your poison.
  • Market fragmentation can be an important attribute of a sector appropriate for Buy-and-Build but it requires some perspective and caution (read “better due diligence):
    • Is fragmentation the result of incremental market development over time or some fundamental customer or sourcing requirement?
    • A market that has long been fragmented may have an entrenched fragmented purchasing process on the customer side, making the synergy potential of national footprint harder or slower to realize.
    • As fragmentation decreases through consolidation, multiples can skyrocket.
    • Once the fragmentation has been wrung out, where will the next generation of growth come from?
  • Some fragmented industries that were mentioned as undergoing PE consolidation: landscaping services, specialty physician practices, industrial crating.
  • Add-on deals don’t have to smaller than the core operation although The Merger Verger notes that the integration can be more subtly complex with the egos of the newer larger company clashing with those of the smaller original company. We’re bigger and stronger than you. Yeah, but we were here first, doing fine on our own, thank you.
  • When doing add-on deals, the question of branding looms large. It is highly possible that a small local brand carries more value in its market than a larger, more visible one. Landscaping services was an example of this.
  • On the question of making acquisitions during economic downturns, most of the roundtable presenters felt that it was important to carry on. One presenter saw downturns as an opportunity to average down their purchase multiples.

M&A East 2018-10-26 12.42.50

  • Conversely, both presenters and attendees noted that many middle market sellers don’t pay that much attention to multiples; they focus on price. (Multiples do not affect a seller’s retirement plans; raw dollars do.) In that context multiples can get ugly in a downturn.
  • While the topic of integration was listed on the agenda, it got – as it often does – a short shrift. There is still this sense that getting through closing is the Win. It is not. The Verger repeats: you will have a vastly more predictable and successful outcome if you actively manage the “hows” of integrating your add-on deal:
    • How are we going to realize the strategic intent behind this deal?
    • How are we going to avoid the identified risks factors?
    • How are we going to keep the best producers of the target company?
    • Exactly how are we going to get our products selling through their channels?
    • How are we going to make their square product design (or production or management or culture or sales) peg fit into our round hole?
  • Seller-entrepreneurs like the Buy-and-Build strategy:
    • They believe the buyer better understands “their baby”
    • It’s easier to get buy-in on visions and plans and investment
    • If the deal involves contingent payments, they have more faith in the the potential payoff
    • “Buy-and-Build” just feels a lot more appealing than “Slash and Burn”

Buyers like the B+B strategy.  Sellers like it too.  It may not be for every PE firm but it’s here to stay.

“Bravo,” says The Merger Verger.  And Bravo to M&A East.

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Deal Rollatini

The process of rolling up acquisitions in a fragmented industry is pretty standard stuff these days. But it’s still worth looking at the topic because there are so many variables within the “sameness” of fragmentation that can go wrong.

One of the major potholes you can hit in rolling up smaller acquisitions is sourcing.  No, not your own sourcing; your customers sourcing you! And if you don’t Getting Flattenedpay attention to that issue, your robust roll-up can get flattened.

Here’s the scenario: Say you’re a private equity investor looking to launch a consolidation play.  You make an investment in a fragmented industry, with the seed acquisition that has all the right attributes including a cornerstone customer, say, a Honeywell or a GE with locations and opportunities all over the map.  Your aspiration is to consolidate the industry and grow that customer into an enormous national account.  Good concept.

Bad reality.

Customers that source products or services from a highly fragmented industry have built up buying practices to mirror the availability of supply.  All of their sourcing processes and sourcing infrastructure are based on purchasing from myriad local vendors.

So if your investment thesis is predicated on reshaping the long-standing business practices of a customer, The Merger Verger predicts that you will be in for some rough going.

It is one thing to do a deal and change the culture of the acquired organization; you own it.  But changing a customer’s culture is quite another thing.  So we strongly recommend that you not base your deal economics on changing any deeply entrenched buying patterns of your customers, however brilliant you think your new offering might be. You could be betting the farm on someone else’s willingness to change.  Never a good strategy.

Reward:

Deal Rollatini in the Works

Deal Rollatini in the Works

If the title of this posting inadvertently led you here in search of Italian food, The Merger Verger appreciates your reading all the way to the end.  Your reward is here: Veal Rollatini with Marsala Sauce.  (Our only suggestion might be to add some fresh ricotta to the mix.)  Let us know what you think.

The Destructive Power of the Individual – Part 1

I was discussing an interesting acquisition situation the other day with a long-time business friend of mine.  She was looking at acquiring small a privately-held company in the specialty logistics space as a launching pad for a roll-up strategy. NASA STS-75Her target was a company with an amazing customer list and a stellar 40-year reputation.  It was underperforming operationally, which offered rich efficiency upside.  The owner (age 70+) was interested in retiring.

Sound fabulous?  Dig deeper.

If you are involved in executing a roll-up strategy, sooner or later you will come upon a potential target where the owner is the founder and long-time “face” of the business.  In such a case,  The Merger Verger has three words for you:

Approach with caution.

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Chick ‘n Roll-Up

Rolling up fragmented industries is an age-old strategy. Sometimes it works.  And sometimes better than others.

The Merger Verger was involved once in leading a series of roll-ups in the industrial packaging and crating space.  Chick Packaging (now a part of the Swedish global packaging concern, Nefab) began life in 18-something in rural New Hampshire and grew through acquisitions to be the largest industrial packaging company in the US.  While the strategy was highly successful, it never achieved one of the its fundamental underpinnings. 

The cornerstone business – and in fact most of the bolt-ons – had deep customer relationships with one or more of the Fortune 100.  The roll-up strategy called for leveraging those relationships into national contracts as the operational footprint of the company grew.  It didn’t happen, not to anywhere near the degree it seemed like it should have.

The reason offers a cautionary tale for anyone contemplating a consolidation strategy.

The Chick Map

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