Chemicals and Specialty Materials Insights

Effectively Navigating the Current Environment

A Hole in the Market

While M&A market fundamentals remain strong, supply chain, logistics, and geopolitical challenges have caused many would-be sellers of chemicals and specialty materials businesses to focus on day-to-day operations while putting M&A plans on hold.   

Simultaneously, strategic and private equity buyers remain aggressively focused on quality businesses in the space, albeit with heightened sensitivity to select diligence issues. In effect, a “hole” in the market has been created, and for assets that meet certain diligence characteristics, there’s an opportunity to capitalize on enhanced buyer engagement and competitive tension. However, given market uncertainty, it’s essential that sellers are aware of the most powerful trends and their implications for M&A, and understand the key differentiators most valued by buyers in the current environment.  

In this article, the Harris Williams Industrials Group explores the key trends facing the industry, discusses implications for near-term M&A, and offers strategies for sellers considering a near-term exit.  

Strong Demand Amid Continued Operational Challenges

Despite clear differences across the chemical and specialty materials industry’s myriad subsectors and end markets, several common themes are relevant across the space: 

  • Enduring, structural supply chain and logistics challenges are driving investment in risk management and digital solutions, causing companies to focus on partners versus suppliers, and seriously consider nearshoring or onshoring over the mid-term.  
  • Oil, natural gas, and other input cost volatility is putting increased focus on pricing strategy, with a heavy shift toward variable pricing where possible. 
  • Personnel shortages are expected to persist, accelerating investment in automation, leading to higher wages, and elevating the importance of HR functions across the industry. 
  • Industrywide interest in sustainability continues to grow, including pervasive net-zero commitments, a focus on plastics circularity, and investments in green and blue hydrogen, although questions remain over the timing of broad-based adoption and the impact on M&A. 
  • Despite inflation and the Russian invasion of Ukraine, pent-up demand across subsectors and solid consumer spending continue to support revenue and job growth, while depleting inventories. 

What does all of this mean for M&A? “Buyers will continue to be selective, focusing on higher-quality assets,” notes John Lautemann, a managing director in the Industrials Group. “Diligence focus areas will also continue to evolve, with enhanced scrutiny on gross margins, supply chain strategy, and end market mix expected for the foreseeable future.” 

Lautemann says this trend may cause lesser-known businesses—even those with attractive profiles—to struggle to win attention once deal flow surges, similar to conditions in the second and third quarters of 2021. And, despite current volatility, Lautemann expects valuations to remain near all-time highs, although he says macroeconomic conditions and yield curve changes could alter that prediction. 

To differentiate themselves and take advantage of the hole in the current market, specialty chemicals and materials should enhance their capabilities in five key areas: 

1. Management Agility

Today’s buyers prioritize management’s ability to anticipate and prepare for market volatility. “It’s critical to control the narrative around how management has mitigated recent operational challenges and outperformed more reactive competitors,” says Tim Webb, a managing director and head of the Industrials Group. “To the extent sellers can leverage concrete, data-rich examples, the story becomes all the more compelling in the context of this highly selective market.” 

2. Resilient Demand 

While buyers have long sought out businesses with strong growth and diverse end markets, the pandemic has placed a premium on truly resilient demand. “An increasingly common target criterion for potential buyers has been exposure to prized end markets like personal care, food & beverage, life sciences, and electronics,” says Lautemann. “Nevertheless, end markets don’t necessarily have to be non-cyclical but should be diversified and non-correlated enough to buffer against exogenous shocks.” Also valuable: being tied to secular tailwinds such as ESG or infrastructure spending. 

3. Predictable Margins 

“Given recent supply chain challenges, margin predictability has dramatically increased in importance,” says Webb. “Investor returns are very sensitive to large margin swings given their impact across both new and existing revenue.” 

Lautemann lists two factors that can boost margin predictability: having clear pricing power or a variable pricing mechanism in place and providing mission-critical solutions representing a small percentage of total customer costs. 

4. Flexible Supply Chain 

Similarly, today’s buyers need to be convinced that management teams understand risk management and have taken steps to meet customer demand in the face of persistent supply chain and logistics challenges. “This comes down to cultivating a diverse procurement network, ensuring availability of substitute inputs, and thinking of vendors as long-term partners, not simply suppliers,” says Webb. 

5. Robust Data Capabilities 

One of the most effective ways to get potential buyers comfortable in diligence is through robust data, says Lautemann, especially in the current environment. “Bolstering reporting capabilities and taking the time up front to understand and prepare for key buyer questions can be an invaluable investment in advance of a potential sale.”  

Specifically, he says, effective tracking of revenue and margins across categories is crucial, as is the ability to analyze and manage key business risks and opportunities through KPIs. 

Conclusion

For potential sellers of chemicals and specialty materials assets, current conditions require a more thoughtful approach to preparation, positioning, and timing. At the same time, a real opportunity exists to meet buyer demand for companies able to handle the vagaries of today’s marketplace. 

In addition to honing the five capabilities listed here, chemicals and specialty materials companies should consider partnering with an advisor to help weigh business characteristics, capabilities, and performance against prevailing market factors and buyer dynamics. Doing so can make all the difference in achieving a successful outcome, regardless of ultimate timing. 

To learn more, please contact our senior bankers.  

Industrial companies represent the backbone of the manufacturing economy, and the Harris Williams Industrials Group has a long-standing heritage of providing superior-quality advisory services to a spectrum of growth and manufacturing businesses. We've represented companies in a variety of industries that produce niche products with leading market positions and technologies. 

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