Bolt on acquisition activity has remained robust and proven to be a key feature of deal activity, despite Covid-related inertia in the broader buyout space. As Bloomberg data reveals, there were only two buyouts completed between April and June, one of which was Clayton Dubilier & Rice’s acquisition of Radio Systems. But for PE sponsors with platform companies in their portfolios, and an eye on consolidation opportunities, 2020 appears to have been very much a case of ‘business as usual’.
Bolt-on acquisition activity has remained robust and proven to be a key feature of deal activity, despite Covid-related inertia in the broader buyout space. As Bloomberg data reveals, there were only two buyouts completed between April and June, one of which was Clayton Dubilier & Rice’s acquisition of Radio Systems. But for PE sponsors with platform companies in their portfolios, and an eye on consolidation opportunities, 2020 appears to have been very much a case of ‘business as usual’.
“We’ve signed 13 deals so far, and have 19 total add-on deals signed, completed or in exclusivity. Last year, we did 15 bolt-on acquisitions, so we’re in the same zip code,” confirms Jason Barg (pictured), Partner, Lovell Minnick Partners, a PE domain specialist in global financial services.
One of those deals includes ATTOM Data Solutions, who this summer acquired Home Junction Inc, a real estate data provider. ATTOM Data Solutions is one of Lovell Minnick’s real estate technology plays.
“Those types of deals, where the two businesses are naturally adjacent and you can see the potential for new synergies to develop, make a lot of sense to us,” adds Barg.
Since its inception Lovell Minnick has done over 100 bolt-ons, and with additional deals in the pipeline for its platform companies for Q4, Barg says the firm’s consolidation strategy “has really accelerated for us over the last handful of years”.
One could argue that pursuing ‘buy and build’ strategies this year has been favourable, in light of buyout deals falling. Given that platform companies typically already know the businesses and the management teams of firms they are looking to acquire within their industry sector, the fact that travel restrictions have been so severe has also not worked against them, with deals successfully being completed remotely.
“This year, our platform companies have continued to make acquisitions without too much disruption, in industries that have not been compromised by coronavirus,” comments Aaron Sack, Head of Morgan Stanley Capital Partners, a leading middle-market private equity platform that focuses primarily on North America. “An animal health asset that we own recently signed an acquisition, which demonstrates that there are some industries that have continued to grow during the pandemic.”
Sack explains that at Morgan Stanley Capital Partners, “We have capital structures that allow us to make bolt-on acquisitions during the period of our investment, either using additional equity, or with credit in the form of a delayed draw term loan, for example.
“We only focus on healthcare, consumer, industrial and business services. In those industries there typically are a number of add-on acquisition opportunities in any given year.”
Reduced ‘frothiness’ in valuation multiples
VSS is another PE firm that has been actively overseeing bolt-on activity, not just this year, but since its inception. With a specific focus on the lower middle-market, VSS has completed 360 deals and is a core aspect of its investment DNA, according to Patrick Turner, Managing Director at VSS.
“Our portfolio companies have been actively looking at, and some executing on, target acquisitions. We’ve had more time to focus on this, this year as new deal volumes are significantly down. That being said, in the last 12 months we’ve completed six new platform deals, which is a record year for us,” says Turner.
One of its portfolio companies, Endo1 Partners, a dental care business, has done nine acquisitions in the last nine months.
Another portfolio company, Atlanta-based Quatrro, which provides outsourced finance and accounting solutions to small and mid-sized businesses, made a strategic acquisition earlier this year in Chicago to widen its geographic footprint.
“It’s about building the EBITDA growth of these portfolio companies through strategic acquisitions and there are often some very good synergies,” says Turner. “It’s an opportunity for business owners to take some liquidity at an uncertain time in the world and roll in to a new company. That might explain why bolt-on deals have been so active this year.
“Some of the frothiness of multiples has been taken out of the market so platforms are able to do bolt-on acquisitions at realistic prices, but it’s vital in this environment to do the necessary work on cash flows, EBITDA etc.”
At a time when companies are protecting their bottom line, the appeal of joining a larger company to diversify their business interests seems understandable. The type of platform companies Lovell Minnick invests in, are all in best-in-class providers of some sort, mostly in B2B services.
“As a result, with our management teams we can find service areas that are adjacent to, or in some way providing similar services to, a different end market, and bring those companies on to the platform. We have been able to continue to prosecute those strategies through the pandemic over the last six months.
“For the target company, there are financial incentives to doing these deals. Typically these people are entrepreneurs, who can take some chips off the table, and generate some cash proceeds whilst also receiving equity in the combined entity.
“In this current environment, the idea of being part of a larger, more diverse platform with strong capital backing from a PE sponsor…that is really resonating with entrepreneurs and shareholders in smaller businesses,” comments Barg.
For companies pursuing non-organic growth, doing acquisitions, “we want to be the destination provider, backing platform companies for whom bolt-ons or smaller companies want to be a part of. That makes a huge difference when negotiating these deals, which are typically not auction-based deals,” he adds.
Seeking out the right platform companies is very much the secret sauce among those pursuing buy and build strategies. This comes down to understanding what the growth potential is for a specific target platform company, and making sure each acquisition subsequently leads to an increased EBITDA multiple.
At VSS, they provide a hybrid debt and equity solution to the companies they invest with. Turner says that the aim is to back companies that are generating 5 to 15 per cent top-line revenue growth.
“They tend to be highly cash generative, tech-enabled companies in sectors including healthcare, education and outsourced business services. Most companies who come to us like the fact that they are not being diluted, compared to growth capital, but also because we help them to find bolt-on acquisitions as part of their investment thesis.
“We have one person in our team whose job is solely to look for potential bolt-ons for our platform companies. He’ll look at a specific market sector, call the most relevant 20-plus companies, and on behalf of the platform he’ll ask if they’d be interested in talking.
“Management teams are often very much in tandem with us when it comes to looking for target acquisitions; indeed, many of the entrepreneurs we work with are often as eager as we are to do bolt-ons. Attitude is a big part of doing a good acquisition…you don’t want to upset your internal culture if the target company’s management team is not a good fit,” explains Turner.
Sack further reinforces this last point when he states that 10 of their last 15 platform investments were into founder-owned businesses. “We place culture and collaboration very high on our list of priorities. We think that makes us a very good acquirer for add-on acquisitions seeking those kinds of dynamics,” he says.
What, though, denotes success when investing in platform companies?
There is not a straightforward answer to this, as every PE sponsor will have its own KPIs in place. Sack is quick to point out that any bolt-on acquisition has to add value to the platform, “either through some kind of channel or product expansion, or geographic expansion”.
To help oversee value creation, Morgan Stanley Capital Partners has five fully dedicated operating professionals within its 22-person private equity team; three partners, two principals. These operating professionals are on an equal footing with Sack’s investment team. “They sit on our investment committee, they are members of our deals teams, and their primary role is to oversee our value creation planning,” he says.
To protect its interests, VSS applies only modest leverage to the companies in its portfolio. Turner says these are typically less than 4x.
“Once growth objectives have been achieved, we will look to decide whether it’s time to exit but typically it is the entrepreneur who comes to us to say they are interested in doing an exit. There’s also an element of us thinking, ‘We’ve done all we can do, maybe it is time to sell to another sponsor who might be able to take it to another level?’ This is a collaborative process,” he asserts.
With bolt-on pipelines remaining strong for Q4, it is likely that further acquisition activity could even accelerate, as small businesses look for strategic partnerships in a volatile marketplace. In that regard, Barg is not surprised by how good the deal environment has been:
“We are very encouraged that our companies have been able to perform this year despite hurdles around travel, not being able to meet physically with management teams for onboarding etc.
“We have a pipeline of platform companies and continue to prosecute opportunities.”
With much uncertainty lying ahead over the next 12 months, the priority for Sack and his team at Morgan Stanley Capital Partners is to remain selective.
“There is uncertainty with regards to the upcoming US election, and when the pandemic will run its course. But we continue to focus and it remains very much business as usual,” Sack concludes.