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The Mergers and Acquisitions Outlook

By Bridget McCrea

In its recent M&A Trends Report 2015, Deloitte predicts that mergers and acquisitions (M&A) activity will remain steady and/or accelerate in most business sectors. “A vast majority of corporate respondents expect 2015 to be a strong year for M&A. 85 percent anticipate acceleration or at least sustaining 2014’s heady pace, up from 84 percent in last year’s report. Only 6 percent of respondents expect deal-making activity to decrease.”

According to Deloitte, 39 percent of the companies surveyed expect to tap into the robust M&A environment to pursue divestitures (i.e., the action or process of selling off subsidiary business interests or investments.) That number represents an increase of almost 25 percent over 2014. Deloitte points to the technology and healthcare sectors as the most active when it comes to M&A activity, with energy – specifically oil and gas – “surging up the ranks and coming in second as the most likely sector to experience M&A activity.”
A Period of Strength
So far in 2015 the electrical distribution sector has been impacted by a number of mergers, including Anixter International Inc.’s (NYSE: AXE) acquisition of the Power Solutions segment of HD Supply (NASDAQ:  HDS) for $825 million. As the largest acquisition in Anixter’s history, the deal – which is expected to close soon – should result in future tax benefits from acquired U.S. intangible assets with a net present value estimated to be approximately $70 million.

Calling this particular move a “strategic game changer for Anixter,” Brent D. Rakers, CFA, senior analyst-industrial distribution with Thompson Research Group in Nashville, says that on a global scale he expects this type of M&A activity to continue within the industrial sector. He points to the strengthening U.S. economy as one key driver of the activity. “A lot of these transactions – unless they involve fairly distressed situations – tend to take place in periods of economic strength,” says Rakers.

Looking back over the last two to three years, Rakers says it’s been “a very difficult time of recovery for distributors as a whole.” He says falling oil prices – and the subsequent impact those reductions have had on related industries – have put pressure on prices and other elements that can have significant impact on distributors. “We’re seeing a disconnect between expectations on the supplier side and the prices that buyers want to pay in this type of environment,” says Rakers. That, in turn, can negatively impact the distributor or “middleman” that is trying to improve its own margins.

In assessing the Anixter deal and comparing it to potential M&A activity of the future, Rakers says the situation was “somewhat unique in that Anixter was a company that was going through some strategic repositioning” at the time. Ultimately, he says the acquirer saw potential in the fact that HD Supply’s Power Solutions segment was on the upswing and well out of the difficult recessionary period.

“Looking specifically at the HD Supply deal, you have a situation where the acquisition target had experienced a couple of years of improvement,” says Rakers. “From Anixter’s perspective, it was early enough in the cyclical recovery for it to be the right time to make that move. In other areas of distribution – at least on the industrial and electrical side – I’m not so sure we’re seeing that right now.”
Through the rest of 2015 and into early-2016, Rakers expects M&A activity to remain “general and normal,” although he says that over time there will likely be more activity taking place among the industry’s small- to midsized organizations. “As long as you have a fragmented [industry],” Rakers concludes, “you’re going to continue to see consolidation.” 
More Activity on the Way
In reviewing the electrical manufacturer and distribution landscapes, Kwame Webb, CFA, an equity analyst with Morningstar in Chicago, says foreign companies like Rexel and Sonepar continue to be “incredibly active” with their M&A activity (although he doesn’t cover either company). In light of the recent fluctuations in the stock market, Webb says such movements don’t typically impact companies’ activities when it comes to merging with and/or acquiring other firms. 
“At the end of the day, most [companies] are using debt to finance the deals. We’ve seen a little bit of a creep up in debt costs for both investment grade and non-investment grade companies,” Webb explains. “As evidenced by the recent Anixter-HD Supply deal, rates aren’t exactly high enough to stop them at this point.” On the business side, Webb says many of the companies involved with M&A are already “late in their business cycle,” which makes it more difficult for them to achieve organic growth. “Acquisitions can be a very convenient outlet.”

The falling commodity prices that Rakers alluded to earlier in this article are also having an impact on manufacturers’ and distributors’ consolidation activity right now. Copper prices, for example, are “down 41 percent from their 2011 peak and probably have a lot further to go,” according to BloombergView.With this in mind, Webb says companies could begin to consolidate more rapidly in order to “grow revenues and offset that deflation.”

Tightening their Belts
Going forward, Webb says industrial distributors within the electrical segment will continue to deal with a shrinking/consolidating supplier base that’s “exerting influence over the distributors themselves.” For example, he sees a significant differential in both margins and returns for electrical distributors versus their broader-line counterparts.

“There’s no coincidence when you open up Wesco’s annual report that it highlights Eaton as nearly 10 percent of what they’re buying,” says Webb. “Anixter has done so much buying and selling recently that I’m not sure where their numbers will come out, but they used to say that their top five suppliers comprised 30 percent of what they were buying.”

Logically, Webb concludes that if you’re procuring that much from those sources, it’s “really going to eat into your margins.” Finally, Webb points to Anixter’s stance against private labeling products as yet another factor that comes into play. “Theoretically, the fact that Anixter insists on only buying branded goods gives its suppliers even more power.”

From a longer term perspective, Webb sees more of the same in store for the industry, with the “bias being for [suppliers] to keep bulking up to rebalance the power dynamics in the industry. I think that’s been a theme for the last 5 to 10 years and I would suspect it to continue going forward.”

McCrea is a Florida-based writer who covers business, industrial, and educational topics for a variety of magazines and journals. You can reach her at bridgetmc@earthlink.net or visit her website at www.expertghostwriter.net.



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