Gaining Advantage In Consolidating Market

We've talked a lot about our consolidating industry in this space, but here's a guest editorial by Darren Perry, a VP at L.E.K. Consulting, to give you another view. 

His subject: "Advanced Maneuvers:  How to Gain the Advantage in a Consolidating Aerospace Industry." 

Rising demand for aircraft around the world is creating a boom-time environment for primes such as Boeing and Airbus, along with the longer tail of systems, components and materials suppliers.  However, while deep order books are driving a positive industry outlook, individual firms (and their financial sponsors) face a great deal of uncertainty and risk as growing consolidation is altering the competitive balance across the value chain.

Spurred by primes looking to consolidate their supply bases, aerospace players across the value chain are turning to mergers and acquisitions (M&A) as a way to shore up competitive positioning, achieve growth targets and enhance margins.  As a result, the entire industry is consolidating and competition for deals has been fierce.  In fact, aerospace M&A volume has already rebounded to pre-recession levels and industry buyers have been extremely aggressive in their bidding – paying 50% more on average for assets than their private equity (PE) counterparts based on our analysis of data from S&P Capital IQ and other sources.

Outmaneuvering the Competition

This dogfight for positioning challenges aerospace players on multiple levels.  First, it requires companies to look beyond their day-to-day activities and be much more proactive in considering their inorganic growth options.  Now, more than ever, aerospace firms face being marginalized by competitors if they aren’t prepared to take bold action in this eat-or-be-eaten environment.  For those players who do seek to grow through acquisitions, the intense deal competition presents the challenge of being aggressive enough to win without having to overpay.

In light of these dynamics, there are two keys to preserving competitive power and realizing the full value of targeted assets:  strengthen your position in sub-sectors and develop a plan to enhance – perhaps even change – your aerospace targets’ business models.

1) Fortify your Position in Key Sub-Sectors:  Identify where and how new acquisitions and established assets can forge an advantaged position as the value chain consolidates across all levels. As the M&A game plays out, a company can create real value if it is the only player capable of making a key component from a particular material or to a particular spec. This will require firms to move beyond targeting companies individually and devise broader strategies that involve multiple targets to grow and reach a critical scale in key areas. 

To this end, senior executives will need to forecast where the aerospace industry is moving, identify the key inputs or capabilities that have not already consolidated, and then run roll-up strategies. Time is a critical factor, as waiting too long will likely reduce your options and increase the asking prices for the remaining companies available.

2) Enhance Your Targets’ Business Models:  Heated competition for aerospace deals will require firms to validate their targets’ upside potential in order to support higher valuations and execute winning bids.  And while no two deals are the same, upside opportunities may include:

·        Value pricing:  Given the increased supplier power that comes with industry consolidation, pricing optimization can be a powerful (and often underutilized) value driver.

·        New market entry:  As a significant portion of future demand will come from new international markets, developing a tailored approach to meet customer needs in targeted regions may yield early-mover benefits (e.g., product/performance, cost characteristics, sales channel, etc.).

·        Product innovation:  In an industry that is often overly engineering-driven, understanding customers’ needs (and often their customers’ needs) and applying an outside-in approach to product development can drive outsized benefits.

·        New business models:  Moving beyond the target firm’s traditional business model may present the greatest potential for value creation (this includes going beyond just changing manufacturing location). For instance, “non-core” assets being spun out of larger entities may play a broader – perhaps even a different – role for the industry when stripped away from their parent companies (software/data assets may be particularly interesting in this regard). The challenge is to identify and validate these opportunities early in the evaluation process.

Flight Plan for Success

While the dynamics of a consolidating industry and high transaction multiples create a challenging deal environment, companies prepared to push the envelope – through both sub-sector acquisition strategies and plans to enhance their targets’ business models – stand to capture the greatest value in this competitive market.

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