First Atlantic Capital liked the looks of Berry Plastics as a foundation for its buy and build strategy in the plastics industry. It was a solid company with improvement opportunities in a fragmented, consolidating market – an ideal platform company. When the deal was done, First Atlantic rolled up its sleeves and spent the following 18 months getting Berry Plastics in top shape before making what would be a series of add-on acquisitions.
“We strengthened management, built up the sales force and invested in technology to make sure we had the best manufacturing,” says Roberto Buaron, chairman and chief executive officer of First Atlantic. “This significantly increased the Ebitda, and then we were ready to start buying companies.”Over the course of 10 years, First Atlantic has acquired 10 companies to add to the Berry Plastics platform, and grew its revenue from $58 million at the time of acquisition in 1990, to $408 million as of Dec. 31, 2000.
While 10 add-ons to a platform company is somewhat unusual, sources say with the debt markets closed up pretty tight, the building part of a buy and build is likely to move to the forefront in 2001. By no means will general partners abandon looking at new platforms, especially since their funds are so flush with capital, but, as one investment banker put it, they’ll “make sure their existing house is in order before beginning new construction.”
In some ways, the trend toward add-ons is only natural. Platform acquisitions accounted for the majority of deals done last year, so the anticipated influx of add-on acquisitions might not be so farfetched.
In 2000, platform acquisitions accounted for 53% of the buyout deals completed, while add-ons accounted for 27% and stand-alone acquisitions accounted for 20%. Platform acquisitions have represented the lion’s share of LBO deals since 1994. Prior to that, stand-alone companies prevailed as the deal of choice, accounting for 46% of deals in 1993, while platforms rang in at 32% and add-ons at 22%.
Move Over Rollups
The popularity of the buy and build strategy has become evident in the last two years as it edged out the formerly prominent rollup play. A rollup strategy, which is more of a merging of equals rather than the integration of a smaller company into a larger one, is now seen in the market as riskier, and few firms want added risk in uncertain times such as these, sources say.
“The public doesn’t buy off on rollups anymore,” says Lloyd Greif, president of Los Angeles investment bank Greif & Co. “When you take a lot of small companies and slap them together – trying to make something out of them – it’s tough to get that into the public markets, even in better economic times when there is a public market.”
Many of the risks associated with rollups involve the actual integration process and the problems that may arise as a result: management team disputes, position and product duplication and an inability to completely identify obstacles until integration is complete.
As banks have become wise to the potential risks of rollups, and at the same time have become more focused on only financing deals they perceive as “sure things,” buy and build strategies have become more eminent.
The difference, Greif points out, is in the amount of risk associated with the buy and build strategy.
“At least with a platform, you have a solid company on which to build – a solid foundation,” he says. “It’s more likely to have solid management because it is a larger player in the industry and the add-ons make way.”
Maybe Yoga Would Help
With the economy in a slump, bank debt on hold and the public markets uncertain, GPs and bankers alike are taking time to reflect on and evaluate their portfolios in order to determine their next course of action. This directly affects the number and types of deals getting done, especially when it comes to venturing into a new platform.
“They’re taking some time to deal with portfolio problems and have a high standard about looking at new things,” says Keven Callaghan, a managing director at Boston-based Berkshire Partners.
This presents somewhat of a problem for GPs in competition with strategic buyers for companies that could serve as platforms. Of course, strategic buyers don’t depend on lenders to supplement their equity contributions to deals. The current environment is therefore likely to heighten the number of deals lost to strategic buyers because financial buyers are constrained by their ability to leverage transactions in a way they’re accustomed to.
Much to the chagrin of buyout pros, the equity portion of LBO deals has recently become more significant, often reaching 40%, compared with a normal range of 25% to 30% a few years ago, says Greif.
The situation leaves the buyout firms looking at a fork in the road. “They’re either not going to be able to do as many deals as they want because they’re going to lose out to strategic buyers more than they’re used to, or they’re going to have to settle for the fact that they’ll have to shave a little on the returns in order to get deals done (by putting in more equity),” Greif says.
That Silver Lining
On the brighter side for GPs looking to successfully carry out a buy and build strategy, sources say there is no shortage in the number of companies to be bought or the consolidation opportunities in the market.
Jeff Turner, managing director and co-head of middle market mergers and acquisitions at U.S. Bancorp Piper Jaffray, says his firm continues to see strength in its pipeline of sell side transactions. He points to several drivers of transaction activity that will carry buyout deal makers, especially those involved in buy and builds, into the upcoming quarters.
The aging of baby boomers and their interests in liquidating their ownership in companies tops Turner’s list of transaction drivers. Second, he gives credence to the number of undervalued public companies that would be better off private. And third, consolidation is basically a never ending process around the world.
“Consolidation will go on forever,” Turner says. “Obviously there is a limit to how much consolidation can occur in any one industry because we could get to the point where there are a limited number of major players and antitrust regulations will keep monopolies out of the markets, however, it’s a cycle – a talented entrepreneur will break away and start a small business and the process will start over.”
Furthermore, consolidation is destined to continue, not only because the American people yearn to be entrepreneurs, but also because of our incredibly inventive society.
Chris Christopher, a managing director at San Diego-based investment bank Andover Associates, points out that industries that didn’t exist several years ago now exist, and synergies between companies will become more apparent as time goes on.
“Take two companies today that you might say you can’t consolidate because they’re not in the same business,” Christopher says. “After a while, people will start to figure out they have more similarities than originally thought and it makes sense to consolidate. Opportunities present themselves in interesting ways.”