The ROI of M&A

The common stigma surrounding M&A is that 80% of deals do not reach expectations. Still, deals grab headlines, and many companies use M&A as their primary growth strategy. Is there a disconnect between reality and the headlines, or is the stigma of M&A failure not really true?

For sellers, the return on investment (ROI) on the sale of the company depends on how it has performed over the years. Every $1 increase in profitability, in theory, produces an ROI of 4-6X or more when the company is sold. Plus, the owner keeps that extra dollar every year that they own the business.  An investment in new equipment, systems, training, and certifications can make the company more efficient and more attractive to buyers. Also, in general, more profitable, efficient, and well-managed companies get better terms as far as cash at closing, less deferred compensation, less escrow, etc.

For buyers, the ROI of M&A is clear for those who are successful at sourcing, financing, and integrating acquisitions.  In the U.S. PCB industry, TTM Technologies has grown from $80 million in revenues in the 1990s to over $2 billion today, mostly through acquisitions. Other notable U.S. PCB acquirers have been Summit Interconnect, APCT, Advanced Circuits, FTG, and others.

In 2020, the North American PCBA industry saw about 25 deals that we know of, of which 15 involved private equity and a few involved public companies.  Some of the buyers with multiple deals in 2020 were East West Manufacturing, Zentech, and EmeraldEMS.  Certainly, many of the large public CMs have also grown through a combination of acquisitions and organic growth.  The trend of growth through acquisitions is predicted to continue due to the availability of funds, a large number of owners who are at retirement age, and a high number of smaller (under $50 million in revenue) CMs that will be available for acquisition in the coming years.

The reasons for making acquisitions include increasing sales and profits, obviously.  Some of the other synergies that are achieved by growing through acquisitions are:

1. Increased economies of scale
2. Higher ability to invest in new equipment, facilities, training, and certifications
3. Better experience in sourcing, negotiating, financing, and integrating new deals
4. Ability to offer more services, such as design, DFM, prototypes, LVHM, HDI, flex/rigid-flex, RF, volume production, etc.
5. Cross-selling opportunities between wider range of product lines and customers
6. Ability to pursue larger customers

In addition, most customers in the EMS industry like to be geographically close to their suppliers, so by having multiple locations it is easier to pursue more customers.  At the same time, many EMS customers like to have low-cost, overseas solutions. The larger the EMS company is, the more likely they have their own low-cost facilities or overseas partners.

Certainly, many deals fail completely or do not meet expectations after closing. One way to reduce failure rates is to properly plan the integration and on-going management of the purchased company.  It is important for buyers to test assumptions properly and not fall into the trappings of “group think.”  Often, the assumptions are fine, but the execution of the plan falls apart due to lack of planning and communication. Paying only $1 might be too much for some acquisitions if the assumptions are too rosy and the integration is poorly handled.  In other cases, a buyer might seem to over-pay at closing, but in the hands of the right operator the business may flourish.

All buyers have different ways of looking at the returns on acquisitions. Typically, they are looking to improve profitability by at least 2-3X.  For example, if a company is making 5% adjusted EBITDA (operating profit plus depreciation plus add-backs), buyers will look to increase that to 10-15% or more.  Also, larger companies tend to obtain better multiples when they themselves sell.  For example, if a smaller business sells at 4-6X, a larger business may sell at 8-10X.  These returns can be increased if the buyer is using leverage to finance acquisitions.  It is not always this simple, but buyers can make a huge ROI IF they improve profitability, obtain an arbitrage of exit multiples, and properly utilize leverage to increase returns.

It is not easy to calculate a general ROI of M&A. A simple way of looking at the calculation is, in general, growing, successful companies tend to be good at doing M&A. By the same token, companies that are not growing or profitable tend to not be making the investments necessary to make them attractive sellers or buyers.  As an owner, it is important to prepare for an exit even if you never plan to sell, and to make careful, strategic investments in the business, including M&A deals.

Tom Kastner is the president of GP Ventures, an Investment Banking firm focused on sell-side and buy-side transactions in the tech and electronics industries.  GP Ventures has offices in Chicago and Tokyo. Tom Kastner is a registered representative of and securities transactions are conducted through StillPoint Capital, LLC—a Tampa, Florida member of FINRA and SIPC. StillPoint Capital is not affiliated with GP Ventures.