The onset of lockdown had a profound effect on the manufacturing industry. So you would not be surprised to know M&A activity has been impacted in 2020, with only 376 UK deals recorded in the first three quarters, a drop of almost 30% from the corresponding period in 2019. But while volumes dropped by a record 54% in Q2, it might surprise you to know they bounced back by 44% in Q3, and values are holding firm. This strong rebound in activity levels is quite remarkable, given the stresses of the pandemic which continue to have an enormous impact on business and society.
Manufacturing subsectors and the opportunities for deals
Most subsectors saw a dip in activity levels in Q2, followed by a rise in Q3. A few notable sub-sectors include:
Food and drink was the only subsector to see quarterly increases in deal volumes. While all other subsectors saw steep Q2 declines, food and drink saw an increase of 17% in Q2, followed by 7% rise in Q3. It is emerging as a highly attractive and resilient sector for investment, evidenced by a significant number of sales processes launched in Q3. These comprise deals that were put on hold in March, as well as a number of new processes for businesses that have over-performed, or those looking for a strategic move in line with underlying industry trends.
Industrial automation deals declined sharply in Q2, but in Q3 have rebounded three-fold, to levels 21% above those seen in Q3 2019. Many businesses have accelerated their adoption of automated and digital technologies in the current environment, and this is reflected in the attraction of such businesses to investors.
Engineering Services Engineering services saw deals fall from 138 in Q1-Q3 2019 to 92 in Q1-Q3 2020. The troubles of the automotive and aerospace industry have been well documented, and some connected parts have been impacted by delays in major capex projects. Yet as with all things, this in itself presents opportunity for discerning investors.
Key private equity concerns
Private equity deals saw an even steeper decline in Q2 as investment decisions were put on ice, but its Q3 recovery was also more accentuated. The current climate has brought a number of factors into sharp focus:
- Assessment of existing portfolios was the key priority for private equity, albeit many completed this exercise quickly to resume reviewing potential deals
- Forming a view of how the landscape is likely to change including achievability of projections
- Understanding the impact of updated forecast plans on returns
- Increasing flexibility in business models as manufacturing businesses reconsider their supply chains
- Adapting for a lower quantum of deal debt funding as debt and equity investors choose to take a more cautious approach
- Considering the clarity of diligence requirements, for example, supply chain risks.
With the prevailing uncertainty, additional diligence requirements and the need for a clear roadmap, PE have taken their time to complete deals.
Resilience will drive value
As manufacturing businesses consider the timing of a sales process, we believe that there will be a polarised approach, with PE focused on ‘resilient’ businesses and limited appetite for those with less visibility of their recovery curve. For those owners of ‘resilient’ businesses, there are certainly no shortage of buyers. The 2020 position is very different to 2010, when buyers were scarce. Currently we see far more buyers than sellers and competition for these, to the surprise of many, is fierce.
PE buyers strategy will need to be compelling and pricing may need to be flexible due to demand. The initial view that this crisis would generate a bonanza of cheap deals certainly isn’t the reality in manufacturing.
We would expect the pent up appetite and sheer quantity of dry powder to convert to an ongoing recovery in deal flow in the manufacturing sector in 2021 assuming the mist of uncertainty begins to dissipate. Valuations will be driven by sector dynamics and the oft used word ‘resilience’. Meanwhile, the prospect of an effective vaccine for COVID-19 is only increasing the attractiveness of the sector.
For more information, please contact me or our Industrials team.