As the economy recovers, middle market manufacturing companies are poised to make a big comeback in terms of profitability and as appealing prospects for investors. Changing economic tides, a shortage of sellers and trillions of investor dollars on the sidelines, add up to big opportunities for manufacturing businesses in the middle market today.
For several years now, the prevailing position of manufacturing executives was to strategically locate plants across mainland China. “Offshoring,” as it was aptly labeled, was originally driven by China’s competitive advantage relative to the U.S. In addition, Indonesia, India and Vietnam were considered as alternative sites for manufacturing plants as these locations offered comparatively lower labor costs.
Buoyed by a host of economic factors, this trend is reversing course to what is now referred to as “on-shoring.” According to The Boston Consulting Group, by approximately 2015, manufacturing in some parts of the U.S. will be just as economical as manufacturing in China for many goods destined for North American consumers.
This is particularly relevant for our typical manufacturing client: A well managed, U.S. based, privately held, lower middle market company, with ~300 employees, ~300K square feet of manufacturing space and a North American customer base.
Acquirers today are sitting on more capital than ever before in the history of American business. Financial buyers and private equity groups have $1.1 trillion in dry powder (cash on hand) and strategic acquirers are sitting on better than $2 trillion that they are eager to invest. Financial and strategic buyers are both looking for desirable middle market companies in the U.S. where they can invest and grow their money. In fact, foreign buyers still view the U.S. as the best and safest place to invest.
Also of importance, there are fewer sellers in the marketplace today. Many firms suffered significant financial setbacks during the recession and are only now seeing earnings and revenue rebound. With this short supply of sellers in the marketplace and high demand from investors, valuations are rising and sellers are in the driver’s seat.
For owners of middle-market manufacturing companies who would like to investigate opportunities for M&A in today’s market, it helps to understand what investors find desirable. There are three key industry-level characteristics that attract an optimal mix of financial and strategic investors to a manufacturing company.
- Capital Constraints: Many lower middle market companies have tight capital constraints, and manufacturing, by its very nature, is a capital-intensive business. From fixed equipment and inventory to human capital, success is predicated off of access to a viable financial and strategic partner.
- Proprietary Production Process: Almost all successful manufacturers have developed a unique, proprietary production process that has been refined over time. Such a fine-tuned process might be more cost-effective than industry competitors. This is an attractive quality to strategic investors.
- Brand Name Recognition: Desirable manufacturers have created products and well-known brands that are unique to the marketplace. Investors seeking to grow market share often seek the synergy that the acquisition of a popular brand provides.
Investors are also looking for businesses that have been managed well and are profitable. Following are key attributes that investors will analyze to determine the attractiveness of a manufacturing company.
- Customer base
- Supplier base
- Capacity utilization
- Quality control
- Historical and forecasted financial performance
- Market environment
- Management team
- Information technology
- Patents and trademarks
We anticipate that there will be a significant number of manufacturing companies coming to market in the latter part of 2015 and 2016. And as more baby boomers prepare to retire and sell their companies, we expect to see a return to a buyer’s market by 2020. These are all salient points that management teams will want to consider, as they weigh their options for M&A in the near future.
Scott W. Sims is Senior Vice President at Allegiance Capital Corporation www.AllCapCorp.com, a private investment bank and middle-market M&A firm. Sims leads a team of professionals who assist companies in every aspect of selling and financing a business. He is reachable at SSims@AllCapCorp.com.