Plastics M&&A strong, but clouds on horizon for 2019

Plastics mergers and acquisitions activity was solid in the second half of 2018 and is expected to remain so in 2019, but there are more storm clouds on the horizon than in previous years.

Financial firm P&M Corporate Finance of Southfield, Mich., tracked 163 global plastics and packaging deals in the second half. That's only one less than the first half of the year but a drop of 17 — or more than 9 percent — from the second half of 2017.

For full-year 2018, P&M tracked 327 such deals, down 32 from 2017, for a drop of almost 9 percent. PMCF Managing Director John Hart said that 2017 may end up being viewed as a "spike year" in number of deals before the market returned to a more steady average.

"We didn't see a slowdown of interest in 2018," Hart said. "The first quarter was slow and that affected the total for the whole year, but overall interest in plastics and packaging deals was strong."

Based on end markets, the number of deals tracked by PMCF in food/beverage, construction and automotive each saw double-digit declines in 2018. The consumer market reversed that trend, recording 17 more deals than in 2017, a gain of 40 percent.

For processing sectors, sheet and thermoforming deals grew by 39 percent in 2017, with 11 additional deals reported. The number of injection molding ​ deals, however, slumped 19 percent with 20 fewer deals.

By product segment, custom molding recorded a massive loss in 2018, with 46 fewer deals for a slide of 61 percent. That decline was tied into a drop in automotive deals. The number of building products deals also decreased 28 percent with 10 fewer deals. Better results were seen in industrial — up 40 percent with 21 more deals — and flexible packaging, where 13 more deals produced 26 percent growth.

In spite of the lower overall deal total, 2018 was in line with results from 2013, 2015 and 2016, according to PMCF data.

Global and domestic business trends appear to be affecting the rate of plastics M&A, according to financial pros interviewed recently by Plastics News. Concerns included the effects of higher U.S. interest rates, U.S.-China tariffs, stock market volatility and the chances of global economic expansion slowing down after several years of growth.

"If you lose your job, you're not going to buy a house or a car," Terry Minnick, chairman of MBS Advisors in Florence, Mass., said. "That's what it feels like when you see the stock market going up and down like a yo-yo. The market might be pausing to take a breath right now.

"The market is in a funny place. It could go either way," he added. "If China worsens, the stock market could get worse and that could slow M&A activity. We're in the longest peacetime expansion since World War II, but there are clouds on the horizon."

Global M&A deal volume was down as a whole, even though deal values remained high, according to Elizabeth Lim, a senior analyst with the Acuris M&A news and analysis firm in New York. "In spite of geopolitical uncertainty, there's still a need for consolidation in some industries," she said. "Tariffs have had an impact by driving the number of U.S.-China deals down significantly."

"The market has been volatile because of the China tariff situation, but I think that will resolve itself in the next couple of months," said Bill Ridenour, president of Polymer Transaction Advisors Inc. in Foxfire, N.C. "China has more to lose than [Americans] do."

Although U.S. interest rates remain historically low, they were raised four times in 2018 by the Federal Reserve, and additional increases are possible for 2019.

"Interest rates are on everyone's mind," Lim said. "If you're a dealmaker and you're looking at megadeals, [interest rates] add up even if they're still relatively low. They're going to affect your ability to finance in the future."

But several pros said there's not much evidence that those increases have affected plastics M&A yet. "An increase of one or two points on interest rates isn't going to affect a purchase price or strategic deals," Thomas Blaige, chairman and CEO of Blaige & Co. in Chicago, said.

"Debt is getting more expensive, but there are still tons of equity to be put to work," Rick Weil, managing director with Mesirow Financial in Chicago, added. David Evatz, managing director with Stout Risius Ross LLC in Chicago, noted that "the overall cost of capital is still very favorable. … It's not impacting transactions right now.

"The market is still flush with cash, even if there are fewer companies available," PTA's Ridenour said.

Earnings multiples paid in plastics M&A deals remained at historic highs in the second half of 2018, although there's a growing sense among financial pros that multiples may have peaked, even if they're not expected to decline anytime soon.

"We'd expect multiples to start to level off," said Phil Karig, managing director of Mathelin Bay Associates LLC in St. Louis. "If buyers get the sense that [multiples] have peaked, that could lead more of them to want to sell and then to a spike in deal volume."

"Multiples in general are as high as we've ever seen them, and we're not seeing them come down," Evatz added. "There's still a lot of demand for deals, but I don't think that we can expect multiple expansion at this point, Companies know that they have to grow into more value."

"Multiples are at all-time historic highs," Ridenour said. "And with the tax cut, companies can pay a full multiple higher than they could before."

At Brown, Gibbons Lang & Co. in Cleveland, managing director Andrew Petryk said that "there's very little that can drive multiples higher than where they are today."

Deal volume growth in the consumer end market resulted from sustained growth in e-commerce sales and the need for innovative and attractive packaging to enhance branding, according to PMCF. Deal declines in construction resulted from a drop to historical levels from a mutliyear high, PMCF added, while automotive deals were down because of a slowdown in auto sales and restructuring within the industry.

Food packaging "still draws a lot of interest," Petryk at BGL said. Flexible packaging also "is very busy," according to Weil at Mesirow. "Buyers view [flexible packaging] as highly fragmented," he said. "They can get day one synergies if they consolidate."

Minnick added that there's "uncertainty" in the auto market because of the rise of ride-sharing services like Uber and self-driving cars.

"People used to feel like they needed two cars, but now they might not," he said. "Automotive isn't going away, but it's changing."

It seems like every year, the impact of private equity firms in plastics deals has peaked. And then the next year, PE interest level goes even higher.

In 2018, PE firms were involved in 46 percent of plastics and packaging deals tracked by PMCF. That's up from 40 percent in 2017 and well above the 37 percent share that PE averaged from 2013-17.

The 150 PE deals recorded in 2018 were the most since PMCF began tracking its data in 2006. Nine percent of 2018 plastics M&A deals involved a PE firm selling to another PE firm.

Minnick at MBS said that PE was "the strongest factor" in plastics M&A. Five recent deals that his firm was involved in all included PE firms.

"PE interest remains high," Acuris' Lim said. "There's competition among strategics, and we're likely to see more [PE] exits or [initial public offerings] because of where we are in the PE cycle."

At PTA, Ridenour said that "the PE push shows no signs of abating. … If they're selling earlier, it might be because of opportunity and growth."

PE firms "are under pressure to grow, and they might be willing to pay more for great assets because they have to get better returns," Weil said.

"There are a lot of world events going on –— tariffs, Brexit, the government shutdown –— but PE firms are still out there open for business," added Petryk at BGL.

Even after more than a decade of consolidation in the plastics and packaging market, there are opportunities for more. But at the same time, financial pros agree that it's becoming more difficult to find high-value companies for M&A deals.

"There's a huge focus on quality," Blaige said. "And we've seen the institutionalization of the plastics and packaging industries. Hedge funds now look at the whole supply chain. You can still get high multiples for quality assets."

"The money hasn't been cut off yet," Karig added, "but we might see more deals for lower-value assets. There's a lot of interest in everything because there's so much money sloshing around."

Weil at Mesirow said that the real value in plastics and packaging deals is in synergies. "You can put a few companies together, but if you don't work to integrate them, it doesn't make a lot of sense and you won't get a good price when you go to sell," he explained.

"Plastics are still very fragmented and there are a lot of opportunities to consolidate," Evatz said. "There are a lot of middle market opportunities."

"There's plenty of room left for consolidation, but it's now turned into a seller's market," Ridenour added. "There hasn't been a lot of technology development and there haven't been a lot of smaller companies building up."

At BGL, Petryk said that strategic firms in plastics "are struggling to grow beyond GDP. They need acquisitions to accelerate growth."

Blaige took a more long-term view of plastics consolidation. "There's more interest every year, even though a large percentage of former industry leaders have merged or been sold, because plastics and packaging is still a relatively new industry," he said.

"A plastics company is old if it's 70 years old. But there are companies in steel and wood and fiber that are much older."

If longtime plastics business owners decide values have peaked, that might drive them to place their companies on the market in 2019. But holding out for a higher price also remains an option, even if it's a risky one.

"Each decision depends on the time horizon of the owner," Lim said. "Some want to sell quickly, some maybe can wait longer."

"If an owner anticipates that the market for assets isn't as good, he might not get the price that he wants down the road," Karig added.

BGL's Petryk described the current M&A position as "the age-old dilemma of being at this spot in the cycle."

"When making that decision, you as an owner have to ask yourself if your [earnings] will grow faster because that affects your price," he said.

Ridenour cautioned that waiting for a better price doesn't always work out.

"The biggest mistake we run into is owners staying on one more year," he said. "Multiples are based on growth, so the best time to sell is when your growth is positive. You don't want to not squeeze every last drop of blood out of the business because then the picture changes."

What does 2019 hold? "The first half of 2019 should be pretty good, but there could be a valuation gap that leads some owners to wait to sell," Weil said.

"We should see similar levels of activity in 2019," PMCF's Hart added. "We're waiting to see if there's trickle down from the bigger picture on stocks or tariffs or interest rates, but there's no sign of a slowdown in M&A in sight."

In 2019, plastics M&A activity "will still be high," according to Evatz at Stout. "We had a lot of positive momentum to end [2018], so there's no lack of interest. It's partly a supply issue … but there's still a lot of capital from private equity that needs to be deployed and there are a lot of healthy companies out there. ... We're not far off from a peak year."

"The first half [of 2019] should be positive, with even more focus on plastics than in 2018," Blaige said. "We always say there are hidden gems in plastics. There are dozens of large companies, but there are thousands of good, small plastics companies out there as well."