As we move toward the end of the first quarter in 2013, there is a fair amount to be positive about. Equity markets are returning to levels not seen since before the Great Recession. Manufacturing activity remains strong (for now, at least). And prospects for continued strength in the mergers and acquisitions (M&A) markets are promising. The political and regulatory environment, however, remains a wild card, and we will be watching closely as discussions about the U.S. debt ceiling evolve.
In the composites industry, 2012 was a moderate year for M&A. We tracked roughly 65 deals involving composites and related end-markets, which is on par with activity in recent years. Although deal activity has been consistent, we feel it is still below where it should be, given the number of companies in the industry. For example, the plastics manufacturing segment (a close cousin to the composites industry) registered more than 350 M&A transactions in 2012. Putting aside the volume of acquisition and divestiture activity, the industry’s structure remains highly fragmented. We have observed for some time a growing disparity between large and small companies. In fact, Cytec Industries’ (Woodland Park, N.J.) recent acquisition of Umeco Plc (Heanor, Derbyshire, U.K.) reinforces this dynamic.
A prevalent theme in last year’s presidential election was that the rich are getting richer as the middle class struggles to achieve upward mobility. We see something similar in M&A. Large players are using healthy balance sheets to grow proactively through acquisitions and strategically position themselves for the long term. But a vast number of small- and medium-sized companies continue to focus on very small niches in the market as their sole basis for long-term growth and prosperity.
Many of these midsize companies have been driven to focus on growing organically in reaction to industry trends and demands. With the ramp-up in transformational composites-intensive platforms in aerospace and recent breakthroughs in automotive composites, the industry has, for the most part, focused on technology development and insertion in recent years. But now that most of those programs have transitioned into production mode, company executives might find themselves having to think a bit more strategically to continue growth.
But what does “strategic growth” really mean? We talk to a lot of entrepreneurs and composites business owners and have found that there is some misconception here. Often, when business owners think of their strategic options, they think it must involve either selling their business or buying someone else’s. In many cases this might be the right path, but for some companies it simply isn’t appropriate, based on timing, business cycles or personal preference. Strategic growth isn’t an either/or proposition. There are a host of tools available to companies that want to grow beyond organic means. These include, among others, nondilutive debt financing for expanding capacity or capabilities, raising minority equity to bring on a partner with financial or strategic resources, licensing existing technology, or forming strategic joint ventures.
Attracting external capital
The relatively low level of strategic activity, noted earlier, has minimized the influx of capital from the likes of private equity and institutional investors. This is not for lack of interest in the world of professional investors — quite the contrary. We constantly have conversations with investors who are very interested in putting money to work in this space, given its technology-rich nature and attractive industry growth rates. However, the size or stage of technology development in most companies simply falls outside of their investment criteria. This is unfortunate because institutional investors can add a lot of value to a company by giving it the resources to grow exponentially while they create a lot of equity value for shareholders along the way. To put things in perspective, in most private-equity transactions, the original owners and management team retain 20 to 50 percent ownership and operational control in the business. Therefore, the economic value created through institutional ownership typically far exceeds the initial purchase price in a transaction. So for business owners who are thinking about their companies’ long-term growth, critical areas of strategic focus include exit or succession plans, growth scale and enterprise value.
Outlook for 2013
For company owners who are considering an exit strategy or selling their business, 2013 looks to be ideal. Valuation levels remain strong for businesses that are performing well, and we saw some very attractive valuation multiples paid in M&A transactions last year. For example, Cytec’s acquisition of Umeco represented a multiple of 10 times EBITDA (earnings before interest, taxes, depreciation and amortization). Although a 10x multiple shouldn’t be viewed as the norm, it is not unreasonable to think that well-run businesses with definitive strategic differentiation will trade near this range. Generally, we are seeing acquisition multiples return to prerecession levels regardless of industry. This is a good sign.
Beyond valuation metrics, 2013 should be a strong year for business owners who are looking to make an exit in the next few years. Given the transition to production on major aerospace platforms, the market is generally at a healthy point in the cycle. But in any industrial sector, the cycle can change quickly. Strong market conditions don’t turn on a dime, but they also don’t last forever. At some point, there will be another downturn, and it’s not out of the question that it could come in the next couple of years. Larger companies with owners near their golden years will face a decision: either invest in innovation or make acquisitions to spur growth and stay competitive. We don’t expect owners who survived the last downturn to have an appetite for going through another one. We will not be surprised to see, before too long, some of the more well-known names in the industry change hands.
Michael Del Pero can be reached at He can be reached at Tel.: (310) 405-7005 or E-mail: email@example.com.
The author extends a special thanks to industry consultant Steve Speak (Steve Speak Coaching and Consulting, Scottsdale, Ariz., firstname.lastname@example.org) for his contribution to this article.