Industry Insights

Merger & Acquisition Outlook for the Manufacturing & Distribution Industry in 2010

April 2010
Author:  Tony Giordano

Tony Giordano

President, BKD Corporate Finance

Manufacturing & Distribution

Wells Fargo Center
1700 Lincoln Street, Suite 1400
Denver, CO 80203-4514

Denver
303.861.4545

General Market & Manufacturing & Distribution Market Trends

  • U.S. gross domestic product (GDP) surged in the last three months of 2009, rising 5.7 percent on an annualized basis. The economy has now grown two quarters in a row, with the fourth quarter providing the best growth in more than six years.
  • Fourth quarter GDP was driven by acceleration in inventory investments and non-residential fixed investments as well as a 2 percent increase in real personal consumption expenditures.
  • The Institute for Supply Management manufacturing index has risen 13 of the last 15 months through March 2010, showing a strong positive trend since bottoming in December 2008. New orders, an indication of future growth, have been strong, recording a reading above 60 three out of the past four months (50 is the threshold between expansion and contraction).
  • Capex is likely to grow by spring 2010. Historically, economists have seen a nine-month lag between troughs in capacity utilization and the inflection to positive year-over-year growth in capital spending. If current trends mirror past recovery, capital spending could increase year-over-year by spring 2010.
  • Uncertainty in several sectors, including employment, housing, consumer spending and interest rates, as well as the unwinding of global stimulus programs and multiple sovereign credit issues, continue to cause experts to question the sustainability of the recovery. Many of the nation’s supply executives in the March 2010 Manufacturing Institute for Supply Management Report on Business® indicated economic activity in the manufacturing sector expanded in March for the eighth consecutive month.

Total U.S. Middle Market & Manufacturing & Distribution Merger & Acquisition (M&A) Activity

  • Total middle market disclosed M&A (>$750 million) transactions declined from 4,715 in 2008 to 3,990 in 2009 (-18.1 percent) with deal value down from $356 billion to $232 billion (-53.5 percent). M&A markets have demonstrated improvement through February 2010 as both transactions and deal value were up 22.8 percent and 46.4 percent, respectively, when compared to the same period ended February 2009.
  • U.S. enterprise value (EV)/earnings before interest, taxes depreciation and amortization (EBITDA) middle-market valuation multiples declined from 8.2x to 7.1x, reflecting the uncertain economic outlook, tight credit markets, volatile equity markets and reduced competition between strategic and financial buyers. Larger transactions demanded higher multiples ($250M to $750M—8.1x, $50M to $250M—7.7x, <$50M—5.3x), while approximately 75 percent of all transactions closed were less than $50 million. These multiples have all increased in recent months. For the trailing 12-month period ended February 2010, market multiples increased from 7.1x to 7.5x. Larger transactions continue to demand higher multiples but all segments have increased ($250M to $750M—8.9x, $50M to $250M—7.9x, <$50M—5.7x).
  • Total manufacturing and distribution* middle-market M&A (>$750 million) transactions declined from 460 in 2008 to 329 in 2009, with deal value down nearly 50 percent from prior year levels. EV/EBITDA multiple for this period remained relatively flat, declining from 8.75x to 8.2x. Manufacturing and distribution sectors have seen improvement through February 2010 as both transactions and deal value are up 23.4 percent and 49.5 percent, respectively, when compared to the same period ended February 2009.
  • According to Capital IQ, U.S. Manufacturing*, M&A activity has increased in the last two quarters with strategic buyers accounting for approximately 95 percent of closed transactions. These trends have continued in the first quarter of 2010.
  • U.S. private equity deal flow for 2009 was down 50 percent from 2008 but seems to have turned a corner in the fourth quarter. Quarterly deal flow increased for the first time in a year, and total capital invested recorded the highest quarterly total of the year at $15.3 billion. For the majority of the year, investors focused on their portfolio companies and how to survive the market downturn. Approximately 90 percent of completed deals were under $500 million in transaction value, with deals under $50 million representing approximately 60 percent of all completed transactions. Momentum from the fourth quarter of 2009 has continued into 2010 as many private equity firms report a significant increase in deal flow. This would suggest private equity closed transactions should begin to see an uptick beginning in the second quarter or early third quarter of 2010.
  • Tight credit markets affected private equity deals as the average middle-market leveraged buyout total debt multiple (total debt/EBITDA) for transactions by companies with less than $50 million in EBITDA declined from 4.4x to 3.4x, with senior debt/EBITDA at approximately 3.0x at year-end. For companies with more than $50 million in EBITDA, total debt multiples increased in the later part of the year, ending the year at 4.8x with the senior debt/EBITDA multiple at 3.9x. For the trailing 12-month period ended February 2010, both segments of the credit market have seen an increase in both total debt and senior debt multiples. Because of a continued slow market for the syndication market, transactions with less than $50 million in debt continue to be more feasible as they can be financed with a single lender or “club” financing. As a result of the tight credit markets, private equity contribution in 2009 exceeded 50 percent of total capital, up from levels in the low- to mid-30 percent range in 2007.

Trends for 2010 M&A Activity

  • Overall, we expect to see increased M&A activity inthe general M&A marketas well as the manufacturing and distribution industry sector in 2010.
  • With an estimated $400 billion overhang in the private equity market, a great deal of committed capital needs to be deployed. Although there will continue to be focus on the operations of existing portfolio companies, we expect to see a higher emphasis on strategic add-on acquisitions and new platform company investments.
  • S&P 500 companies have an estimated $428 billion in excess cash on corporate balance sheets. This is a result of caution by businesses following the deep recession. As there is improved visibility in the economic recovery, we expect companies to invest in capital spending and M&A, both positive signs for the manufacturing and distribution industry.
  • Legislation out of Washington will be critical to the economic and M&A activity with respect to corporate tax rates, capital gains, health care, etc.
  • For manufacturing and distribution businesses that have survived the difficult economic environment of the past 18 months, we see strategic options once again available, whether seeking growth capital, executing an acquisition strategy, recapitalizing your business or considering a sale of your company.

For more information on this issue or related matters, please consult your BKD advisor.

* Includes food & beverage, industrials, materials & transportation.

About BKD Corporate Finance, LLC

BKD Corporate Finance, LLC, a wholly owned subsidiary of BKD, LLP, provides merger and acquisition, sales, management buyout, ESOP, recapitalization, financing and IPO advisory services. Our experience covers a variety of industries, including financial institutions, health care, communications, defense, food processing, manufacturing, retail, software, technology, transportation and distribution. Member FINRA and SIPC.

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