- While specialist 3PLs generally excel in their respective focus areas, integrated solutions providers are able to create “sticky” relationships with large customers—if they can execute well across their service offerings.
- For 3PL platforms built through acquisition, the optimal extent of integration varies widely from business to business.
- With both specialist and integrated 3PL business models, three essential considerations can help potential buyers and investors pick a winner.
Powered by strong economic conditions, the third-party logistics (3PL) space offers considerable upside for investors and strategic buyers. Growth potential is good for both niche providers of specialized 3PL services and for 3PLs offering a broader portfolio of services or integrated solutions.
Either way, the question remains: Is now a good time for investors and acquirers to buy companies in the 3PL space? If so, what should they look for in potential targets?
In a panel discussion at the 2018 Harris Williams Transportation & Logistics 3PL Conference, leaders from contract logistics companies and private equity firms discussed the merits of the two main models of value creation, how to approach integration when adding new acquisitions, and some key considerations that could help acquirers find attractive targets.
Niche Specialization versus Integrated Solutions
3PLs generally create value in one of two ways: by providing specialized offerings or by offering a portfolio of services—in some cases, integrated as a full end-to-end solution. As panelists discussed, there are advantages and disadvantages associated with each approach, and the distinctions between them are becoming less clear as supply chains and customer needs continue to evolve.
Truly niche providers specialize in certain services. This enables them to do specific things extremely well, which is attractive for customers that value quality. The downside of being a niche provider is that it can limit a company’s potential customer base, and it can be difficult to scale. For instance, in some cases, having only one main offering could make it difficult to attract and keep a large number of customers that are also looking for complementary services to go along with it. In other words, it is possible to be too focused.
Indeed, panelists agreed that having a menu of stand-alone options from which customers can pick and choose improves the “stickiness” of customer relationships, encouraging them to buy more services and eliminating excuses for them to buy from a competitor.
However, when adding services to their portfolios, 3PLs need to keep a few key things in mind. One is performance. While additional services can make customer relationships stickier, the converse can happen if a company is not careful. When diversifying from its core, a company needs to make sure it can not only sell the new services effectively (which can be difficult in a world of specialists), but also deliver them at the same level as its established offerings. If it does not, the company risks undermining those very relationships it was trying to protect by giving customers what they wanted. Just because a customer may like to buy all its services from one supplier does not mean it will put up with mediocre performance.
Another key factor in deciding whether to add a particular service is who makes the buying decision for it. Selling a new service is complicated when the buyers of that service are different from those who have been purchasing established services. It takes time and effort to build and foster relationships with an entirely new buying executive or team who may not be familiar with the provider.
Most important is the bottom line: New services have to be profitable to be worth it. As one panelist put it, being customer-centric to gain a bigger share of customers’ wallets is great, but the margins ultimately have to justify it. If self-described specialists are significantly outperforming their competitors but not being rewarded monetarily, they need to question the true value (or commoditization) of the new service offering.
New services must be profitable and delivered at high quality levels.
While many niche providers opt to gradually add complementary, stand-alone services to become more of a “one-stop shop” for customers, some take the concept even further. These providers opt to build fully integrated end-to-end solutions that cannot be decoupled or sold as individual services. Such solutions can be very attractive to customers looking for a provider to handle everything for them. They like the simplicity of dealing with only one vendor and knowing that all the services will work seamlessly together. And, for the 3PL, such solutions insulate them somewhat against certain stand-alone services becoming commoditized.
A potential downside of this model, however, is that the solutions cannot be separated into constituent parts. That is problematic for buyers that want more visibility into and control over costs. Additionally, the organization, technology, sales, and management capabilities required to successfully sell and deliver an integrated solution are very different from those related to specialized niche services.
Acquisitions: Integrate or Not?
There is strong interest among strategic buyers and financial investors in both types of 3PLs. For buyers building platforms of scale, integration is a key concern. They need to determine whether and the extent to which they should integrate an acquisition to generate the most value from the deal. The consensus among panelists is that there is no “standard” approach that applies to all acquisitions; rather, decisions are made on a case-by-case basis.
Generally, acquisitions that strengthen or augment the existing core business are swiftly and fully integrated—but in a way that does not disrupt the acquisition’s customer base and revenue model. One panelist indicated he liked to get such acquisitions up and running on his company’s systems and processes in no more than 120 days.
Those that bring new capabilities to the company and have strong brands tend to be largely kept as separate market-facing units. In some cases, the acquisition operates fully under its own brand, while in others, integration could include some co-branding with the parent company. But in all cases, they tend to be integrated in the back office.
Major differences from the parent company in such things as culture, technology, or operating model are also reasons for leaving an acquisition as it is. Differences can be too great for the acquisition to be easily and successfully integrated—and, in fact, doing so could destroy value.
In the end, one panelist noted, despite the best due diligence and analysis, it is not always possible to know in advance which route a company should take. There are always risks that, for whatever reason, a decision that appears to be the right one turns out to be a mistake. In those cases, it is important to acknowledge failure and quickly move on to limit the damage.
What to Look for in Targets Today
Consumer spending remains robust, unemployment is down, and the stock market continues to trade near record territory. 3PLs are riding this wave, and their escalating valuations reflect it. This has potential investors and acquirers facing a dilemma: Has the market peaked and, if so, is it time to wait for a correction and the accompanying lower prices? Or is there still plenty of growth left in the market?
The consensus among the private equity panelists: There is a lot of opportunity in the market right now. In fact, many high-quality companies are available that otherwise would not be, due to the higher prices owners can expect in this robust market. By the same token, however, a strong economy can mask many shortcomings in weaker companies, which makes it difficult to identify the high-quality targets that have the mettle to withstand a down cycle.
What should buyers do? Three considerations are key.
Look for quality
It is vital to maintain discipline and focus on investing in truly strong companies. This includes looking for companies that have:
The right management and capabilities in place to successfully execute the plan
A well-defined leadership succession plan, ideally several layers deep into the organization, that will provide long-term stability and continuity within the business
An understanding of which business models will be successful in the sector several years down the road.
Additionally, scrutinizing targets’ track record to see how they fared in previous downturns can provide valuable insights into how well positioned they are to weather future down cycles.
One private equity panelist summed up the approach by recalling Warren Buffett’s famous proverb: “It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”
Go smaller and abroad
With the multiples for larger platform companies in the 3PL space continuing to rise, roll-up strategies are an appealing alternative. The fragmented nature of the 3PL world means there are literally thousands of smaller but highly attractive potential targets that can be had for a much smaller investment. One 3PL panelist indicated his company has been very successful in that segment of the market, having acquired and consolidated numerous family-owned and other small businesses at a fraction of what a platform player would command. Doing so has enabled this company to build and augment its own platform and add scale.
It also is important not to forget about international opportunities. One panel participant noted that there are attractive targets in certain areas outside the United States, especially in Europe, where multiples have not risen as quickly or as high. Depending on an acquirer’s model, tapping into the non-domestic market could be another way for a company to keep its acquisition engine humming.
Evaluate the Amazon factor
One question is increasingly part of any discussion in the world of 3PL acquisitions today: Does having Amazon as a customer make a potential target more or less attractive? Indeed, Amazon is growing dramatically. By tapping into this growth, a 3PL strengthens its own business and growth prospects. However, the question should not be about Amazon specifically, but rather about customer concentration more broadly, which has always been a big factor in valuing acquisition targets.
While a 3PL can be successful growing along with a large and influential customer such as Amazon or Walmart, becoming too reliant on one or two big customers leaves the company extremely vulnerable. One 3PL panelist noted that when considering an acquisition, he generally prefers targets with no more than 10 to 15 percent of its revenue coming from any one customer.
A robust economy always can be a double-edged sword for companies looking to invest in or acquire other firms. The target is making money and its growth prospects are good, but it comes at a premium price. This is certainly true right now in the 3PL market. But the prevailing sentiment among panelists is that a truly high-quality company—whether it creates value through specialized services or a much broader portfolio of offerings—is generally a wise bet in any economy.
This article is one in a three-part series capturing key insights from the 2018 Harris Williams Transportation & Logistics 3PL Conference. Read our other features here:
Published November 2018