Merger and acquisition activity has become a dominant feature of the global automotive supplier industry in the last ten years. It has also resulted in some fundamental reshaping of the sector as a number of major players have exited the business, either voluntarily or otherwise while others have entered or expanded. Colin Whitbread reports.
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For many years, acquisition-led growth has gone hand-in-hand with organic growth, as suppliers have sought to exploit and extend their core strengths. The reverse side of this has been a significant flow of disposals. Many suppliers have been active on both fronts, simultaneously acquiring businesses to add to their portfolio of core products and operations while disposing of others that, often for a host of reasons, no longer fit as part of the longer-term corporate strategy. The resulting deals, the driving forces for them and the inevitable impact on the global supplier industry represent a complex web of issues. Although M&A activity tends to flow in waves, driven by demand and supply factors, there is general agreement that the trends seen in the last decade will continue for the foreseeable future, even if subtle changes in the driving forces are evident. The following analysis attempts to bring some perspective to this activity, to assess the key drivers and to outline the resulting impact on the components sector.
The analysis is focused on activities that result in partial or complete changes of business ownership, i.e. one or more purchasers take full or partial control of a business or part thereof from a seller or sellers. This obviously represents just one part of inter-supplier relationships that, in their entirety, can also embrace joint ventures (variously structured), technology partnerships, marketing/sales initiatives etc. Such transactions rarely involve the transfer of significant assets from one party to another although in many cases are precursors to more formal M&A activity, as defined here, between the same parties. Careful analysis of existing joint-venture relationships can often provide a valuable route map for those attempting to spot the approach of the next major acquisition.
As noted above, M&A activity is driven by both demand and supply factors. Demand factors encompass a plethora of motives, most of which arise from choice but some of which are driven by necessity. Suppliers acquire businesses or dispose of them out of choice to achieve corporate objectives as defined by senior management. These objectives are outlined below, but range from a desire to leverage economies of scale, to remove competitors from the playing field, to acquire new technology etc. Necessity can be driven by internal financial pressures that require the liquidation of assets in order to meet balance sheet constraints or funding obligations. However, external pressures can also play a big part. Some OEM customers may dictate that suppliers establish a global manufacturing/supply footprint to shadow their own global vehicle assembly growth. Although many options exist to meet these demands, including greenfield investment, outright acquisition of a foreign-based player may be the preferred answer. Similarly, most OEMs are thinning their supplier bases and this inevitably acts as a catalyst for consolidation.
Although some active suppliers may be fortunate to finance M&A activities through internally-generated funds, many deals rely, at least in part, on externally provided resources. As a result, supply factors, most notably the availability of externally-provided finance also dictate the volume and value of M&A transactions. A tightening of available funds and/or higher charges for those funds can act as a disincentive to deal making and raise the bar by which the financial sense of deals is judged. Hurdles that could be cleared with ease at times when funds are plentiful suddenly become much higher and attitudes change. External providers of funds start to analyse prospective deals with a sharper focus on underlying strategic rationale and to base perceived value on more conservative growth and other benefit assumptions. Post-transaction synergies will be more robustly analysed and quantified.
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By GlobalDataThe willingness of external funds providers to take a proactive stance towards M&A activity by actively taking the initiative and driving industry change, rather than merely lubricating the process, is also a key factor. There have been numerous instances in the last decade where private equity funds and venture capital concerns have been prepared to take a view of industry trends and to promote structural change through active investment. Fragmented sectors of the supply industry have been identified and major consolidations initiated. The success of some of these activities can be questioned, but the impact in some areas has been real. Where supplier CEOs have proved timid, private equity funds have proved aggressive, introducing financial engineering techniques to fundamentally change supply structures. The need for these funds to invest, restructure and then exit, having secured a sufficient payback for their clients, probably within a typical time span of five to six years, guarantees a period of intense activity and change. Recently, businesses put up for sale have typically attracted private equity and trade buyers in a ratio of five or six to one.
While it is difficult to provide a definitive list of M&A drivers, a number of key objectives have become apparent in the last decade. In many cases, more than one of these is evident behind a particular transaction.
Focus on core activities
As the demands placed on suppliers, particular the tier 1s by OEMs have escalated, so has the need to have a clear definition of priorities, strengths and weaknesses. Allocation of scarce resources to satisfy a growing number of demands has become more acute if margin erosion is to be avoided or minimized. This has been the case particularly for quoted public suppliers whose individual businesses are open to scrutiny by shareholders and financial analysts. A stream of disposals and business exits has ensued, providing a key slice of overall M&A volume.
In some cases, these disposals have reflected a clear strategy of eliminating non-automotive activities whilst in others the complete reverse has been true, a supplier exiting the automotive field altogether in order to pursue growth in other industry sectors. Existing pure automotive suppliers have also spun-off businesses in which they see little competitive advantage, either currently or in the future or which they perceive will require unacceptably high levels of investment in the future. Many have withdrawn slowly from businesses that have evolved into commodity-type operations, saddled with permanently low margins and intense price competition. In some cases these businesses can still have value but only as complements to others. This means that, on the opposite side of the coin, many of these businesses can find secure homes with other automotive suppliers with differing priorities and business strategies.
More recently, some suppliers, most notably Dana and ArvinMeritor have exited businesses that do not represent specific product areas but more general activities, namely aftermarket supply. Where trade buyers have been reluctant to acquire these businesses, financial buyers have stepped in, often with a broader vision and strategy involving the assembly of several pieces of a more complex puzzle.
Comments made by supplier CEOs when disposals are announced provide concrete proof that retrenchment to core operations is a vital part of many suppliers’ corporate strategies. As an example, ArvinMeritor announced in late November 2004 that it was to dispose of its coil coating business (Roll Coater, Inc), a wholly owned subsidiary, for US$162.5m. This business, although an important supplier to the automotive sector, also supplies a variety of other markets such as appliance, heating and air conditioning, transportation, construction, roofing and consumer products. According to ArvinMeritor’s CEO, Charles G. “Chip” McClure: “This divestiture gives Roll Coater and its employees an opportunity to prosper, while allowing ArvinMeritor to focus on its core competencies in the global automotive and heavy truck markets”.
Unsurprisingly, the purchaser was a private equity firm, Willis Stein & Partners, which manages around US$3bn in equity capital. This firm focuses on investments in “profitable, well-managed and growing businesses”, something that illustrates that many disposals by automotive suppliers are of sound businesses, albeit non-core, and not just of those in terminal decline. Willis Stein & Partners aims to grow the business organically and through acquisitions, presumably to exit at some future date securing a satisfactory return. ArvinMeritor was clearly not prepared to invest capital and management time in the business, preferring to focus these resources on its core automotive operations.
This disposal actually represented the first of two such sales by ArvinMeritor, the second, and larger one being that of the company’s light vehicle aftermarket (LVA) business group, which remained uncompleted as of end November 2004. Although this decision necessitates a non-cash goodwill impairment charge of US$190m in the Q4 2004 accounts, its eventual sale is expected to raise in the order of US$400m-500m for ArvinMeritor’s coffers.
Once again, the accompanying comments of management shed light on the motives at work. According to CEO McClure, referring to both ArvinMeritor disposals: “These divestitures will enable ArvinMeritor to leverage our core competencies in the global automotive and commercial truck markets to provide the innovative solutions that give our OE customers a competitive edge. By concentrating our resources – and longstanding engineering and design expertise – on our core competencies, we will continue to generate even more value for our customers and shareowners.” He continued, “In order for LVA to reach its full potential and succeed in the future, however, it needs to move forward under new owners whose strategic priorities include building critical mass in the business and providing it with product development and brand support.”
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Global review of M&A activity in the automotive supplier industry, with 2005 outlook |  |
