Harris Williams & Co. recently advised Ryan Herco Flow Solutions (RHFS), a portfolio company of Greenbriar Equity Group LLC, on its sale to SunSource Holdings, Inc. (SunSource), a portfolio company of Clayton, Dubilier & Rice.
The transaction was led by Giles Tucker, a managing director in Harris Williams & Co.’s Industrials Group; Brian Lucas, a managing director in the Specialty Distribution Group; and Graham Gillam, a vice president in the Specialty Distribution Group. Here they share their impressions on the RHFS sale and why it signals continued strength in the outlook for M&A within the specialty distribution industry.
Technical Sales Capabilities are a Differentiator for Specialty Distributors
RHFS is a nationwide distributor of high-purity and corrosion-resistant fluid conveyance, measurement and control products used in mission-critical systems across a wide range of industrial applications. By acquiring RHFS, SunSource, a leading distributor of fluid power and fluid process components and systems in the U.S. and Canada, is expanding its expertise to highly complementary adjacent products and services. One important area that made RHFS attractive to SunSource was its technical sales capability.
Increasing the mix of business that relies on a more technical and consultative sales process remains a priority for many distributors across industries, with M&A seen as a key tool to add these capabilities.
“The technical sales cycle is a differentiator for distribution companies in general, and for RHFS in particular,” says Gillam. “The degree of complexity in the sales cycle and the distributor’s ability to provide technical advice is increasingly important due to heightened awareness of the risk of disintermediation. Many of RHFS's products are used in complex industrial processes in which the cost of downtime is significant. That creates the need for a sales force that knows how to rapidly formulate optimal solutions to these unique challenges, leaning on their breadth of supplier relationships and products.”
“If a distributor has any technical sales capability across its product lines, and any scale, then it will likely be sought after as a platform or as a sizable add-on target,” notes Tucker. “The technical or consultative sales approach is a critical component of long-run value, as it provides protection from disintermediation in the channel. The true ability to solve customers’ problems is the solution to this potential threat.”
Several factors drove Harris Williams & Co. to structure the RHFS deal team with a mix of industrial technology and specialty distribution professionals. One was the technical complexity and solution-orientation of the sales process mentioned above. Another was the breadth of end markets served by RHFS, including original equipment manufacturers (OEMs), project-based businesses, and maintenance, repair and overhaul (MRO) companies. It was also essential to Harris Williams & Co. to maximize the value of RHFS’ position in the marketplace: RHFS and Greenbriar sought a partner who would ensure buyers fully understood the unique value the company offers its customers and suppliers.
Industrial Distributors are Eagerly Pursuing M&A
The RHFS acquisition is just one data point indicating M&A strength in the specialty distribution and industrial products sectors. Through much of 2015 and 2016, industrial distributors focused inward, as many of their end markets faced depressed demand and lower production activity (Figure 1). As industrial activity has recovered, M&A has followed suit.
Industrial Activity Recovers
“Industrial performance is back, and businesses are healthier. While many companies would not consider selling three years ago, there’s much more interest now,” says Lucas. “Business owners are more eager sellers as earnings have recovered, and many feel it’s a good time to exit, particularly in light of the continued strength in the M&A market.”
Industry Fragmentation, Increased Specialization and Regionalism Provide Opportunity
There continue to be many industries where the distribution landscape remains highly fragmented, many independent local or regional distributors exist, and the opportunity for consolidation is significant. SunSource’s acquisition of RHFS follows the trend seen in other industries where large sponsor-backed platforms have emerged and are pursuing aggressive consolidation strategies. According to Lucas, “RHFS is one of the few sizable platforms out there in the industry with national scale.”
Building platforms of scale gives companies the ability to serve multiple regions and multiple end markets, providing differentiation against smaller players limited by their footprint, product line breadth and end market knowledge. For acquired companies, joining a larger platform opens up opportunities to distribute new products and services otherwise unavailable to them. Such mutual benefit adds to the momentum, as Lucas notes: “In recent years the firm has successfully completed a number of specialty distribution transactions where central to the buyer’s investment thesis was the ability to aggressively pursue a consolidation strategy, including transactions such as RelaDyne, TricorBraun and Dade Paper, to name a few.”
The Chance to Buy Down Multiples is an Attractive M&A Incentive
The fragmentation of distributors across many industries also underpins another opportunity for buyers to benefit from multiple arbitrage. Gillam points out that, “Investors can ‘buy down’ the overall cost paid for a sizable platform by executing tuck-in acquisitions, which can typically be acquired at lower valuations. In addition, significant synergies are often realized from these add-ons, which only further lowers the effective purchase multiple. The platform then also typically realizes further value gains and improves its market position via these scale gains.”
Tucker concurs: “There’s a growing appetite for businesses to find value-added tuck-ins. I think you're going to see this trend continue. In the fragmented specialty distribution space, a tuck-in strategy works well, and investors have realized that.”
The ability to generate attractive returns utilizing a buy and build strategy is by no means new within private equity but is certainly fueling increased interest in specialty distribution where there remains numerous highly fragmented industries. Gillam notes, “One trend we continue to see and that is fueling multiples within specialty distribution is the emergence of a broader universe of private equity groups interested in these assets. Where historically groups may have focused on distributors within specific industries or product types, increasingly we’re seeing groups pursue opportunities agnostic of industry but where they feel they can successfully deploy a proven specialty ‘distribution playbook,’ central to which is typically a consolidation strategy.”
Volume-based Synergies Remain an M&A Value Driver in the Distribution Industry
In addition to multiple arbitrage, specialty distribution investments often present opportunities for meaningful scale-based efficiencies, including through the optimization of overlapping footprints, increased market density that supports route efficiencies, purchasing volume benefits, and the ability to cross-sell a broader set of products and services through existing facilities and customer relationships. Typically larger platforms are also able to make meaningful investments in technology solutions, be it operationally focused transportation or warehouse management systems, sophisticated pricing and procurement tools, or customer-facing digital capabilities, all of which drive efficiency gains and build competitive differentiation relative to their sub scale competition.
“A big contributor to an acquisition in distribution is the power of the platform and the cross-sell opportunity,” remarks Lucas. “There’s also a significant lift the acquired business gets when it joins the larger organization and gains access to relationships, products and markets it couldn’t access before.”
SunSource’s acquisition of RHFS should achieve several of these synergies, according to Randy Beckwith, CEO of RHFS. "We are extremely excited about what the future holds for the combined business. The two companies share many of the same business philosophies, including an emphasis on adding value, a focus on customer satisfaction, a commitment to investing in the development of our employees, and a relentless pursuit of continuous improvement driving sustained growth, profitability and shareholder value. Joining forces will create greater opportunity and value for our customers, employees and suppliers."
Industrial distributors – both buyers and sellers – appear eager to engage in M&A. Whether the buyer’s objective is protection from disintermediation, building national scale, adding tuck-ins to an earlier acquisition or pursuing scale-based efficiencies, all indications are that specialty distribution businesses will continue to see high levels of M&A activity and investor interest.