5 reasons the manufacturing industry is teeming with deals
Manufacturing in its simplest form used to mean assembly lines comprised of humans creating and piecing together components that would eventually become an end product. Today, manufacturing is so much more. While manual manufacturing can still be a part of the process, today manufacturing encompasses humans with automated processes and the increasing use of robotics to make the process more efficient. Manufacturing advancements have had an astoundingly positive impact on many different broad manufacturing processes that impact many sectors.
Private equity firms and strategic acquirers have been snapping up manufacturing companies. “We are bullish on manufacturing in North America,” says Steve Karol, the managing partner at Watermill Group. “Advanced manufacturing is creating a lot of new opportunities in many different sectors for many different companies.”
Strategic buyers are also investing in the sector. Apple Inc. (Nasdaq: AAPL) CEO Tim Cook said during a CNBC interview on May 4 that the company plans to create a $1 billion fund to invest in U.S. companies that do advanced manufacturing. The term, advanced manufacturing, typically refers to processes that leverage technology to improve the efficiency of how products are made. The techniques are being used especially in such sectors as technology, aerospace, automobile and medical devices. Here is a look at five areas that are benefiting from breakthroughs in manufacturing and their impact on M&A.
1. Process Automation
Advancements in process automation companies have changed the manufacturing sector and many end markets. “Not long ago the question was ‘if’ and ‘why,’ but now the question is ‘how’ and ‘how quickly can we adopt this technology?’” says Jay Hernandez, a managing director with Harris Williams & Co. “We are manufacturing today with more efficiency and less human labor.”
Harris Williams has seen many process automation manufacturing companies participate in M&A recently. In March, Harris Williams advised Incline Equity Partners on its sale of Dorner Manufacturing Corp. to EQT Mid Market. Dorner, based in Harland, Wisconsin, is a maker of smart technology conveyor solutions for process automation applications. Most major consumer companies use this technology to ensure products face the right direction for bar code scans.
“Think about how much faster that manufacturing process is without someone having to line up the bar codes on a product. The use of robotics and end-of-arm tools are supplementing human labor and improving manufacturing processes all the time now,” says Hernandez.
Additionally, at the end of 2016, Harris Williams advised Grohmann Engineering GmbH on its sale to Tesla Motors (NASDAQ: TSLA). Grohmann is a manufacturer of highly customized, high-yield engine equipment.
This manufacturing technology is so important that Elon Musk, founder and chief executive office of Tesla, says the deal is his company’s “first acquisition of significance in our whole history. We expect this to help drive exponential improvements in our production process, in terms of both speed and quality of output, while cutting the cost-per-vehicle at the same time.”
The purchase is expected to help Tesla grow, with the company aiming to add more than 1,000 engineering and skilled manufacturing jobs in its new advanced automation division.
“Tesla felt they could have a more effective manufacturing process if they owned the company. Telsa wants to build 2,000 cars per week, and by bringing Grohmann in house they feel they can actually do that,” says Hernandez. “The technology is very powerful.”
The automobile industry has been on the forefront of the advanced manufacturing trend. Every auto company from Ford Motor Co. (NYSE: F) to Tesla is striving for innovation. For example, Ford announced plans to become the first auto company to introduce 3-D printing on a mass scale while Tesla is testing the boundaries of solar energy. These disruptions are of interest to dealmakers as they look to purchase manufacturing companies that will be of interest to the largest transportation companies or private equity firms in the future.
Lower middle-market independent sponsor Watermill Group is one such firm. Picking up on the trend in 2015, the firm purchased Quality Metalcraft Inc. (QMC), a Livonia, Michigan-based manufacturer of engineered structural metal components and assemblies, including advanced automobile prototypes. The prototypes are most often used in crash testing and to test other design features. “When companies test cars, they are trying to see what works and what doesn’t,” says Karol, the Watermill managing partner. “These prototypes require highly accurate information and precise engineering.”
While many automobile companies can manufacture prototypes in-house, many well-known and new companies outsource the work. “We found there are a lot of new transportation companies being formed and that hasn’t happened for 100 years,” Karol says. “These companies are using new technologies, and need QMC’s capabilities. In addition to manufacturing prototypes, the company can manufacture and assemble limited production runs to help the customers get to market.” says Karol.
The Chevrolet Volt underbody, Chevrolet Camaro ZL1 hood and Cadillac CTS coupe underbody all have been manufactured by QMC.
QMC can also provide factory-assist services. “When an auto factory goes down, it is very expensive and every minute counts. QMC can help to defray those costs,” say Karol.
Because the need for QMC was so robust in the second half of 2016, Watermill bought Experi-Metal Inc., which now operates as a collaborative partner to QMC, offering prototype and niche production services to original equipment manufacturers, automakers and new entrants to the transportation market.
“As the auto industry continues to advance toward new drive trains and autonomous cars it will continue to require a very precise manufacturing process. There can’t be mistakes,” says Karol. “QMC is ready to meet the needs of the expanding market.”
Indeed, look no further than Intel Corp.’s (NASDAQ: INTC) announcement that it will acquire Mobileye NV (NYSE: MBLY) for $15 billion. Mobileye makes chips for cameras and driver assistance features, which is crucial technology in self-driving cars. According to Bain & Co., self-driving and assistive safety features in automobiles will reach $22 billion to $26 billion by 2025.
According to Pricewaterhouse Coopers (PWC), aerospace and defense had a disappointing 2016 when it comes to M&A. However, while both deal volume and value declined overall compared to 2015, there was a 73 percent increase in deal activity in the fourth quarter of 2016.
The upswing was considered an indication of positive momentum in the industry after significant political changes. Kirk Griswold, founder of Argosy Capital, a private equity fund currently investing its $300 million fifth fund that mainly focuses on manufacturing, agrees the sector is on an upswing in the U.S.
“North America continues to be a huge manufacturing center. There’s a lot of on-shoring taking place now because costs have gone up in China and there are shipping costs and transportation delays that are making China a less desirable place to manufacture,” says Griswold. “The U.S. manufacturing market has a lot of tailwinds now. Although no one seems to know what President Trump will do, what he has said seems to support the continued on-shoring trend that is already taking place.”
In addition to on-shoring, there are other reasons M&A activity is increasing in the sector. With global demand for aircraft projected at $4.8 trillion through 2032, per a 2013 PWC estimate, the opportunities to make money appear to be abundant. Hoping to take advantage of the trends, Argosy has invested in two aerospace manufacturing companies recently. “There is rising demand for both passenger and air cargo aircraft parts from around the world. Projections tracking increasing aircraft miles flown make it a relatively stable place to invest,” says Griswold.
In 2016, Argosy purchased ACL Airshop, the largest manufacturer of air cargo containment systems in the U.S. “Everything that gets shipped by air goes on to pallets or in containers that are highly engineered and the shipments need to be strapped down or secured with a net. ACL manufacturers those Federal Aviation Administration approved straps and nets, and sells and leases other products as well,” says Griswold. The Easley, South Carolina, company manufactures, leases, sells, repairs and manages pallets, containers, nets and straps for air cargo and has more than 30 locations on six continents.
Also in the aerospace sector, Argosy, along with Azalea Capital, bought InTech Aerospace, which is based in Houston, Texas, and manufactures and retrofits aircraft interior components, such as seats, floor panels, windows, wall panels and lavatories. The company has been adding customers since Argosy’s investment the end of 2015 and is looking for acquisitions. “Commercial airlines refurbish their aircraft interiors, including the seats, every 18 to 36 months,” says Griswold. “InTech is in growth mode and is continuously open to considering add-on acquisitions in aircraft interiors, which would add value to the InTech product offering.”
4. Medical Devices
Demand for more personalized treatment options, an increasing aging population and constantly changing technology has kept medical device manufacturers busy. According to Today’s Medical Developments, a medical device trade publication, the global market for medical devices should reach about $40 billion by 2018. With this in mind, strategic acquirers and private equity firms have been buying up medical devices for the past few years. Strategic acquirers such as Canon Inc. (NYSE: CAJ), Toshiba Corp., Johnson & Johnson (NYSE: JNJ) and Abbott Laboratories (NYSE: ABT) were all involved in M&A in 2016. Private equity firms such as Frazier Healthcare Partners, New Mountain Capital, Bain Capital and Huron Capital Partners have been active buyers as well.
Advancements in manufacturing have made medical devices companies all the more valuable of late. At the end of 2016, Huron Capital Partners’ portfolio company Six Month Smiles’ process got even quicker thanks to advancement of 3-D printing. The Dallas company manufactures and markets kits that put braces on adult patients-- a quick, less expensive alternative to traditional braces, which can take years, and linear systems, like Invisalign, which have limitations. Six Month Smiles’ process takes about six months—the dentist takes an impression of the patient’s mouth and sends it to the company, which reviews the impression, determines treatment and assembles the wires and brackets that the dentist secures on the patient’s teeth. “We make a customized device for each patient,” says Nick Barker, a partner with Huron Capital.
With new technology, instead of taking an impression and sending it to Six Month Smiles to make a mold, dentists can now take digital images of patients’ mouths with a hand-held scanner and send the images immediately. Six Month Smiles has developed software that converts the digital images into a CADD (computer-aided design and drafting) drawing and creates the molds with a 3-D printer.
“The process is now faster and the 3-D model is much more accurate, making it easier for dentist to see exactly where the brackets should be placed on patients and how things should progress,” says Barker. “3-D printing is really changing medical manufacturing. It’s not as effective if you have to stamp out millions of parts at a time, but it works especially well in a shorter-run manufacturing environment and it is able to add customization, which is so important today. 3D printing is changing the manufacturing process.”
5. Precision Machining
Precision machining and manufacturing is expected to exceed $120 billion by 2020 globally, according to Technavio, a trade publication. Precision manufacturing simply means manufacturing products with extreme accuracy. Precision machinists control, design and operate computer-controlled equipment that is extremely precise. Precise machining is used in all sectors that need highly engineered components made to meet customer’s specifications.
According to data from the Institute for Supply Management, the fabricated metal products industry, of which precision machining is a subsector, was one of 11 industries that grew in December 2016. Most of the deals in this space have been completed by larger strategic acquirers such as ESCO Technologies Inc. (NYSE: ESE) and Precision Castparts Corp. But some middle market firms have found a way to play in the sector. For example, through its portfolio company Harvey Tool, the Riverside Co. completed an add-on acquisition that brought precision manufacturing into its suite of capabilities. Of Helical Solutions, manufacturer of highly engineered standard and custom end-mills that enable customers to increase production efficiencies, which can reduce machining time per part and save money compared to other competitive offerings.
“Helical maintains a highly fragmented end user base, selling its tools into diverse end markets and to thousands of different job shops and production facilities,” says Brad Roberts, a principal with Riverside. “Helical tools are particularly popular in end markets where precision is most critical, including aerospace and medical equipment.” The Gorham, Maine, company counts the Boeing Co. (NYSE: BA) as one of its customers. “With the current robust end market demand in aerospace and healthcare, Helical’s ability to improve manufacturing efficiency really resonates,” he says.