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European Industrials & Chemicals Trendspotter: Down but not out with M&A on the horizon

Deal activity in the European Industrials and Chemicals (I&C) space suffered a major blow in the second quarter of the year, with M&A in lockdown months falling to levels not seen for a decade, Mergermarket data shows.

Along with severe economic damage caused by COVID-19, the uncertainty created by the pandemic over the future of international trade and supply chains – the foundations of manufacturing expansion for decades – has made corporate buyers extremely cautious and I&C targets less appealing to financial investors.

But as companies start to realise the need to adjust to new norms, dealmakers hope that business model overhauls and pressure to streamline will reboot M&A in the coming months.

“Many industrial companies are seeing this situation as a once in a lifetime opportunity to re-shape, re-invest and adapt to the new situation we find ourselves in,” said Cara Haffey, Industrials Manufacturing Leader at PwC.

The European I&C sector recorded EUR 7.5bn in value across 183 transactions in 2Q20, making it the worst quarterly result since 2009, according to Mergermarket data. This performance stood in stark contrast to a positive 1Q, which saw 318 deals announced and EUR 46.3bn in value, boosted by private equity activity.

Sponsor-led deals in the sector included ThyssenKrupp's [ETR:TKA] sale of its elevator unit to Cinven and Advent for EUR 17bn, while Alstom’s [EPA:ALO] EUR 6.2bn bid for Bombardier’s [TSE:BB.D] Berlin-headquartered rail business is an example of movement on the strategic front in the first months of 2020.

The good start to the year also meant an increase of around 20% in deal value to EUR 53.8bn in Europe in H1 – a figure that appears more favourably than the slate for global I&C M&A, which saw value down by almost half and volume falling by a third.

Automotive, aerospace and steel were among the worst impacted sectors, hit by a double whammy of plunging demand and lockdown-induced disruption over supply chain arrangements. Transactions in the European automotive space, for example, were down by 70.1% in value and 33.8% in volume in a comparison between 1H19 and 1H20.

Crisis deal drivers

The automotive industry remains a mixed bag with “supply chain demand in electric vehicles coming back reasonably strongly for some players, but for others it’s much harder,” Haffey said, adding that restructuring deals will be a “steady feature” going forward.

Car makers and suppliers are likely the most obvious example of I&C companies that could see COVID-19 creating more pressure to address long-overdue changes, such as those involving environmental issues, and newer ones like supply chain adjustments.

Dealmakers hope this could spark more transformational M&A in the space. VW [ETR:VOW3] is reportedly weighing a c. EUR 1.8bn acquisition of Paris-based car rental firm Europcar [EPA:EUCAR]. The German car maker is also ready to spend USD 2.9bn to acquire US truck manufacturer Navistar in which it has a 17% stake.

Another crisis-related deal driver is expected to come in the form of non-core assets disposals, as conglomerates look to reorganise their portfolios to boost ailing balance sheets.

“Volume in M&A will be driven by disposals of non-core assets as businesses restructure, reflecting the need to pay for the one-off costs of changing the operating structure, post-pandemic” Duncan Johnston, Partner at Deloitte, said.

Activist investors will likely play a greater role in this streamlining trend in the coming months as they pile pressure on listed companies to shake up portfolios and shed under-performing assets.

“Activists were gaining momentum in Europe pre-COVID-19, and although this has been put slightly on the backburner throughout the crisis, they are likely to come back stronger from H2 as the global economy begins to recover,” according to Dimitrios Georgiou, Senior Managing Director at Evercore

ABB’s [NYSE:ABB] CEO Bjorn Rosengren said he would be “surprised if the company does not announce one or more sales of between USD 1bn and USD 5bn” at its investor day in November. The conglomerate’s second largest shareholder, Sweden’s Cevian Capital, has been pressing for changes since it bought into the firm in 2015. 

“European industrial groups have overall lagged the US in terms of refocusing business portfolios. In many ways COVID-19 has been a wake-up call for European players on what really is the attractive core they want to focus on,” Georgiou said.

With the pandemic adding to globalisation anxieties centred upon trade wars and protectionism, an overhaul of international supply chain arrangements cannot be ruled out. Fearing further lockdown induced at the hands of a second COVID-19 wave, manufacturers could start to consider outsourcing alternatives that are closer and safer, even if costlier.

Greater transparency can also be achieved through vertical integration, according to Simon Jonsson, Partner at KPMG. “Companies could integrate the tier below them in the supply chain through M&A such as acquisitions and joint ventures.”

Sector winners

Robotics and industrial artificial intelligence, which are among the few I&C niches to benefit from this crisis, look set to remain winners as a growing number of companies opt for automation in the pursuit of minimal human interaction. From autonomous carts unloading goods in factories to drones collecting grid data and UV disinfectant robots patrolling hospitals and offices, the robotics trend is here to stay.

“The time is now for Industry 4.0,” according to Gene Bazemore, Head of Industrials Technology at Founders Advisors, who said he has “never witnessed so many board level conversations at mid-market companies around the sophistication of manufacturing processes using software-as-a-service and sensor-based technology.”

The plastic packaging sector is also enjoying somewhat of a surge as demand for delivery services rose during COVID-19 lockdowns and perceptions began to change about disposable materials.

“Packaging was beginning to come under attack but COVID-19 is shifting perceptions thanks to a focus on the green agenda,” KPMG’s Jonsson said.

“There will be a big push on innovative and green packaging, which is back in focus now along with recycling and circular economies,” according to PwC’s Haffey.

Companies in the Nordic region, in many cases start-ups, are putting themselves forward as candidates to lead in the development of green packaging technology, as discussed in a previous Mergermarket report.

Kotkamills, a Finnish packaging company with an eco-friendly offering, is expected to come to market after sponsor MB Funds hired Macquarie Capital to guide it in a sale process expected to launch in the coming months.

Chemicals: on the rebound? 

In line with the sector's overall performance, the chemicals and materials sub-sector had a relatively strong first quarter, with EUR 8.1bn spent across 27 transactions, with 2Q figures plummeting by almost a half to EUR 4.5bn across 14 deals, Mergermarket data shows.

Renewed interest in personal care in the context of a pandemic was epitomised in EQT’s [STO:EQT] deal to acquire Schulke, a leading provider of hygiene infection prevention solutions, from Air Liquide [EPA:AI] in April.

“Chemicals businesses had a slightly harder April and May but in June we are very much seeing demand bounce back,” PwC’s Haffey said. “Order books and performance has bounced back […] which is the ‘foundation for M&A’,” she added.

Private equity firms are likely to take an interest in specialty chemicals, particularly in Germany, as liquidity issues among SMEs in the country make them potential targets, as reported by Mergermarket.

The corporate streamlining trend will also continue to be a deal driver among large chemicals players. Expected carve-outs include Lonza’s [SWX:LON] planned sale of its Specialty Ingredients unit and Arkema’s [EPA:AKE] upcoming disposal of its polymethyl methacrylate (PMMA) business Altuglas International, as reported by Mergermarket.

What next for private equity?

Although financial investors remained active in 1H, the volume of sponsor-led acquisitions in I&C fell to 100 from 161 in 1H19.

For the first time since Mergermarket records began in 2001, I&C was knocked off its top spot in buyout volume in half-year terms, coming second to the Technology sector, which recorded 134 deals in 1H20.

For large-cap sponsors to return to the fold in 2H20, they will require sound leverage markets, according to Nestor Paz-Galindo, EMEA Head of M&A at UBS. The successful syndication of the multi-billion euro debt package to finance ThyssenKrupp’s elevators buyout shows that “leverage is there for the right stories”.

The issue of valuing assets in times of trading uncertainty will remain a theme in the months ahead due to a lack of reference points, according to Justin Anstee, Bank of America’s Head of EMEA Industrials.

With no attention paid to FY20 numbers, it becomes a matter of using FY21 or FY22 multiples, which is dependent on sub-sector and how quickly a company can return to FY19 levels of revenue.

Under the current circumstances, "it is hard to triangulate value", Anstee added.

by Georgina Barnard and Ryan Gould with analytics by Thorsten Louie Pedersen

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