Flying High - PwC
Industrial Products Aerospace & Defence
Flying High* Aerospace & Defence M&A
*connectedthinking
Contents Welcome. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Overview of deal activity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Geographic trends. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 Industry performance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Private Equity investment. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 The future . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16 Contacts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
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Welcome Welcome to Flying High 2008 – a review of M&A activity and key trends within the Global Aerospace & Defence (A&D) sector by PricewaterhouseCoopers. Last year’s review of M&A activity concluded that the total value of disclosed transactions in the sector in 2006 was comfortably the highest since 2000. 2007 saw disclosed transactions totalling nearly $31bn, confirming our view that the industry remains strong despite recent downturns in other sectors. Our clients within the A&D industry, governments and the financial community frequently seek our advice on the broad industry themes underpinning many of these transactions. In this document, we aim to share our insight into some of the key trends we have observed and where we feel the A&D M&A market is heading.
• The US has been the most significant investor in 2007, with the bulk of investment coming from repositioning in the domestic market • Intra-European deals have been notably absent due to the weak dollar depressing margins and making North American assets cheaper • 2007 was a record year for transatlantic M&A, with money crossing both ways • Private equity participation in the sector continues to increase and contribute to increasing average deal size. This document presents only an introduction to our thoughts on the A&D sector – a challenging industry in which PricewaterhouseCoopers, with its experienced and dedicated sector team, is firmly entrenched.
The key observations that we explore in this paper are: • Buoyant A&D activity remains centred in North America and Europe, but transactions involving other geographic regions continue to rise
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Neil Hampson Global A&D Leader
PricewaterhouseCoopers
Overview of deal activity Still on the up The disclosed value of deals in the sector reached $30.8bn in 2007, up from $29.2bn in 2006. The last two years have been comfortably the highest since 2000, but still some way below the $50bn seen in that year. Given that 2007 did not contain any of the ‘mega deals’ that drove 2000 levels (eg. Northrop/Litton or Thales/Racal), this represents very high underlying investment rates. Average deal size has also grown from a low of $100m in 2003 to $280m in 2007, reflecting the more strategic nature of deals, improved profits and higher multiples. Both corporate and financial buyers have been competing for quality assets. In addition, all areas of the sector are currently buoyant. In civil aerospace, backlogs for commercial aircraft reached an all time high in 2007, with Boeing and Airbus having a combined 6,848 aircraft on order by the end of the year. Their combined order intake of 2,754 in 2007 smashed the previous high of 2,057 in 2005. Order backlog now represents around 7.5 years of production at current build rates. While programme delays continue to make the headlines for Boeing and Airbus, and driving a consequential level of uncertainty for suppliers and their investors, we believe these delays are an understandable function of the rate of innovation. However, this innovation challenge, in terms of aircraft size and complexity (A380) and materials/ supply chain (B787) has not had any material impact on M&A. Indeed, M&A due diligence is increasingly focused on the positioning of suppliers for the next generation of aircraft: A350 and the single aisle replacements for A320 and B737.
The regional sector has recovered strongly in recent years and demand for business jets reached a similar all time high driven by corporate profits as well as strong growth from the Middle East and Asia. The continued restructuring of the supply chain by Boeing and Airbus has also contributed to deal activity throughout all levels of manufacturing. The divestment programme of a number of Airbus facilities, as part of its Power8 programme, is currently the most visible example. This new approach by Airbus is still in its infancy and is likely to continue throughout the supply chain over a number of years. In defence, several major programmes in the US and Europe are in the ‘ramp up’ phase of production and ongoing military commitments in Iraq and Afghanistan are supporting high demand for spares, overhaul and retrofit. Additionally, flatter defence spending in Europe has led European primes and suppliers to continue to seek areas of geographic growth away from their home markets. We do not expect the US election process at the end of 2008, nor any new administration, to have any noticeable dampening effects on either US or international M&A. As with previous years, defence procurement continues to focus on a small number of large, high value programmes, but there remains a need to refocus spending on land, C4ISR*, homeland security and upgrades to existing platforms. We conclude that the A&D industry remains strong and that M&A is a visible sign of confidence alongside new programme developments and capital expenditure.
* Command, Control, Communications, Computing, Information, Surveillance & Reconnaissance
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Total disclosed deal value ($bn), 2000-07 46.0 0.7
15.6
29.2 25.8
29.7
1.2 19.9 0.4
12.1
5.8 13.7
12.4
2000
2001
North America
2002 Europe
24.0
24.4
1.7
0.4
0.5
12.8
17.2 0.7
30.8 1.4 10.4
8.8 15.0
7.8 8.8
8.6
2003
2004
15.1
14.6
2005
2006
19.0
2007
RoW
Source: Dealogic Note: Rest of World (RoW)
Average deal size ($m), 2000-07
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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PricewaterhouseCoopers
Top 10 Aerospace & Defence deals in 2007 Target
Target Description
Bidder
Target Nation
Bidder Nation
Value ($bn)
1
Smiths Aerospace
First-tier supplier to UK and US aircraft and engine manufacturers
General Electric
United Kingdom
United States
4.8
2
Armor Holdings
Major supplier of armoured vehicle systems
BAE Systems
United States
United Kingdom
4.5
3
Sequa Corp.
Supplier of advanced repairs for jet engine parts
Carlyle Group
United States
United States
2.6
4
Standard Aero Landmark Aviation
Provider of maintenance and overhaul services to military, regional and business aircraft
Dubai Aerospace
United States
United Arab Emirates
1.8
5
K&F Industries
Manufacturer of wheels, brake products and fuel tanks for commercial, military and general aviation aircraft
Meggitt
United States
United Kingdom
1.8
6
EDO Corp.
Supplier of highly engineered products and systems for defence, aerospace and industrial applications
ITT
United States
United States
1.5
7
Aeroflex
Producer of microelectronic and testing solutions used in aerospace & defence
Veritas Capital United States GS Direct Golden Gate Capital
United States
1.1
8
McKechnie Aerospace
Manufacturer of aerospace parts
JLL Partners
United Kingdom
United States
0.9
9
ACTS
Provider of airframe, engine and component maintenance
KKR Sageview Capital
Canada
Canada
0.7
10
Aviation Technologies Inc.
Manufacturer of aerospace components
TransDigm Group Inc
United States
United States
0.4
Source: Dealogic
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Geographic trends Of the $30.8bn invested in 2007, nearly two thirds was invested in North America and only a third in Europe. This compares to the much more balanced profile seen in previous years, and points to a weaker M&A market in Europe and the strongest year in North America since 2000. After a pause for breath in 2006, international deals came back strongly in 2007, with total deal value more than trebling to $14.4bn.
Europeans unwilling to invest in home markets
North American deals continue apace Despite the European inflow, North American investors still accounted for the majority of North American acquisitions, investing $10.3bn during the year. This represents more than half of all A&D investment globally and suggests that US A&D companies are continuing the trend of acquiring technology and positions on US military and civil programmes. Examples of this include ITT’s acquisition of EDO and PCC’s acquisition of Cherry Aerospace.
Gathering momentum in emerging markets
Deals involving a European buyer and a European target fell by 80% in 2007. This ‘intra-European’ M&A has suffered not only because the EU market is seen as less attractive – this has long been the case – but also because the weak dollar has depressed European profits (largely dollar denominated) and made North American targets cheaper. EU buyers were reticent to acquire additional Euro-denominated cost bases, seeking instead to ‘dollarise’ wherever they could. Ongoing uncertainty at the level of long term defence spending in Europe and specific programme unit reductions has also made European investments less attractive.
Deals with A&D companies in the rest of the world (RoW), although only accounting for 5% by value in 2007, represented 20% of all deal volume, a steady growth from one in ten deals in 2000.
As a result, European companies invested over four times more in the US in 2007 than they did in 2006.
Of these countries, India may be the one to watch given its growing budget and increasingly favourable environment towards foreign ownership.
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Of the 43 announced RoW deals in 2007, 25 represented investments in Brazil, Russia, India and China (the ‘BRIC’ countries). More than three quarters of the deals in these countries in the last two years have been internally generated (i.e. deals executed by BRIC investors), indicating either a scaling up by regional A&D companies, or broader support from local financial investors.
PricewaterhouseCoopers
Geographic split of disclosed deal value, 2000-07 1% 34%
2%
5%
4%
29%
47%
45%
1%
2%
63%
36%
6% 44%
5% 34%
69%
65%
62% 51%
48%
61% 50%
36%
2000
2001
2002
2003
Europe
North America Destination of investment
2004
2005
2006
2007
RoW
Source: Dealogic
Geographic split of disclosed deal volume, 2000-07 11% 38%
16% 43%
51%
13%
16%
38%
49%
37%
47%
12%
14%
14%
38%
44%
33% 30%
Destination of investment
2002 2003 Europe
53%
50%
50%
42%
41%
2000 2001 North America
20%
2004 RoW
2005
2006
2007
Source: Dealogic
RoW deal volume, 2000-07 49
49 5 39 1
44
45
4
21
13
1
10 33
12
5
8 30
19
7
14
19
43
8
2
3
3 19
12
6 25
6
6
17
14 13
14 9
14
15
2005
2006
7
2000 BRIC
2001
Destination of investment
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2002
Asia
2003
2004
RoW (Europe & NA excl)
Source: Dealogic
2007
Middle East
Note: Brazil, Russia, India and China (BRIC)
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Transatlantic deals back in force The value of transatlantic deals rose from $1.9bn in 2006 to $12.6bn in 2007, the highest level we have on record. The investment in both years continues to be concentrated between the United States and the United Kingdom. Many US primes and Tier 1 suppliers have been seeking ‘achievable’ deals in Europe for some time and the UK has proved to be the only fruitful country. The UK Defence Industrial Strategy of 2005/06 paved the way for more international investment in defence assets and the UK remains the world’s second largest aerospace industry. Two of the largest deals in 2007 were therefore US/UK: GE’s $4.8bn acquisition of Smiths Aerospace and JLL Partners’ $0.9bn acquisition of McKechnie Aerospace. UK investments into the US in 2007 were in excess of $6bn. BAE Systems followed its 2005 $3.5bn acquisition of United Defence with the $4.5bn acquisition of Armor Holdings in 2007, accounting for more than half of all European investment. Meggitt Plc also completed its $1.8bn acquisition of K&F Industries.
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Most of the remaining UK listed A&D midcaps have been publicly discussed as potential targets and many privately owned businesses and non-core divisions of larger industrial groups are being examined by corporates and financial investors alike. Europe has generally been viewed as less attractive by US investors, due to a combination of the high value of the Euro, a less stable level of defence spending and the perceived difficulty in rationalising the supply base due to ongoing social, government, and union pressure.
Middle East focuses on the US as well as Europe Another feature of M&A activity over the last two years has been the emergence of Middle-Eastern investors. 2006 saw the acquisition of Doncasters and SRTechnics in competitive auctions from private equity owners. Continuing the trend, 2007 has also seen the acquisition of Standard Aero by an emerging group of powerful investors tasked with creating an indigenous aerospace capability in the region. These investors have seen, and continue to see, long term expansion and technology transfer opportunities offered by US and European based assets.
PricewaterhouseCoopers
Acquisition money flows, 2007
North America
$6.0bn
Europe
$6.6bn
$1.8bn
$2.1bn
$10.3bn Middle East
Source: PricewaterhouseCoopers
Acquisition money flows, 2006
$0.4bn North America
Europe $1.5bn
$11.1bn
$13.1bn Middle East
Source: PricewaterhouseCoopers
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Total disclosed value of transatlantic M&A ($bn), 2000-07 15 12.6
10 6.7 5.9 5.0
5 2.6
2.3
0
2000
2001
2002
2.4
2003
1.8
2004
2005
2006
2007
Source: Dealogic
Balance of disclosed value of transatlantic M&A ($bn), 2000-07 2.8
To the US
1.1
1.3 0.8
0.6
To Europe 1.0 1.7 1.9
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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PricewaterhouseCoopers
Industry performance Margins improving consistently Industry profit margins continued to improve in 2006/7, showing a consistent upward trend from the lows of 2003. In addition, our analysis shows that Tier 1 and Tier 2 suppliers have the highest average profitability due to their ability to capture and exploit proprietary technologies and aftermarket revenues.
Tier 1 suppliers have improved both average and peak operating performance as they seek to manage risk in an increasingly complex technical environment. Tier 2 suppliers have the largest spread in overall financial performance, with those companies with true technical leadership able to achieve significantly superior margins to the rest of the industry, whilst overall tier profitability is diluted by a large number of smaller, more inefficient and poorly positioned suppliers.
Primes have remained broadly stable and have low variability in profitability due to their broad ‘de-risking’ strategies.
Average operating margin of Top 100 Aerospace companies (%), 2000-06
2000
2001
2002
2003
2004
2005
2006
Source: Flight International Aerospace Top 100 in association with PricewaterhouseCoopers. Available at www.flightglobal.com
Aerospace Top 100 Operating Margin 43.7%
40%
37.8%
30%
21.6%
20% 12.0%
10%
7.6% 5.0%
11.3%
11.6%
22.1%
12.1%
21.1%
10.8%
10.9%
10.3% 7.6%
6.5% 1.0%
0.0% -2.1%
0% -5.6%
-8.5%
-20%
Margin 2005
13.5%
-10%
-17.7%
Primes
Tier 1
Tier 2
Tier 3
‘De-risk’
‘Manage Risk’
‘Winners & Losers’
‘Taking Advantage
March 2006 Weighted average
... for now’ Source: Flight International Aerospace Top 100 in association with PricewaterhouseCoopers. Available at www.flightglobal.com
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Private Equity investment Private Equity reaches an all time high Private Equity participation in Aerospace & Defence M&A reached an all time high in 2007. Deals involving financial investors, as either buyer or seller, reached 36% of all disclosed deals and five of the top ten. This follows the trend of steadily increasing participation since 2000. Private Equity has been attracted by the restructuring and globalisation in the supply chain, and has provided much needed liquidity in the market as larger players divest assets and the supply chain consolidates. Private Equity investments have not been confined to US and UK, with investments being made across Europe. This trend is likely to continue as Airbus signals the need to reshape the supply base. Thoughts are starting to turn to the timing of the next civil aerospace downturn. With a typical investment horizon of three to five years, financial investors need to be confident that investee companies will still be in a growth phase well beyond 2011 if they are to command high exit multiples. In addition, investment in new aerospace programmes such as A350 and next generation A320/B737 will need to be closely examined for their impact on near term cash flows.
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However, the industry provides a sufficiently broad range of business models to attract investors that do not feel comfortable with the inherent volatility of the commercial Original Equipment (OE) build segment. Military OE, spares and services such as maintenance, repair, and overhaul can all offer more stable and predictable profit streams, irrespective of the civil aerospace build cycle. Finally there are opportunities for good suppliers to access above-market growth through the supplier rationalisation or outsourcing discussed above. Providing investors can get comfortable that they are backing a winner (more often than not a question of management), the rewards are substantial. The credit crunch has put a temporary brake on Private Equity’s ability to play in the large deal market, but we continue to see plenty of activity in the mid-market. And given weakness in many consumer-driven industry sectors, more financial investors may find Aerospace & Defence businesses attractive, with their ability to access structural growth and international markets.
PricewaterhouseCoopers
Top 10 Aerospace & Defence deals involving Private Equity in 2007 Target
Target Description
Bidder
Target Nation
Bidder Nation
Value ($bn)
1
Sequa Corp
Supplier of advanced repairs for jet engine parts
Carlyle
United Kingdom
United States
2.6
2
Standard Aero Landmark Aviation
Provider of maintenance and overhaul services to military and business aircraft
Dubai Aerospace
United States
United Arab Emirates
1.8
3
Aeroflex
Producer of microelectronic and testing solutions used in aerospace & defence
Veritas Capital United States GS Direct Golden Gate Capital
United States
1.1
4
McKechnie Aerospace
Manufacturer of aerospace parts
JLL Partners
United Kingdom
United States
0.9
5
ACTS
Provider of airframe, engine and component maintenance
KKR Sageview Capital
Canada
Canada
0.7
6
Global Design Technologies
Aerospace component supplier
Bridgepoint Capital
United States
United States
0.3
7
Hunter Defence Tech
Manufacturer of military and homeland defence products
Metalmark Capital
United States
United States
0.3
8
BAE Inertial Business
Manufacturer of inertial products for automotive and military applications
JF Lehman
United Kingdom
United States
0.1
9
Free Wave Technology
Military data and radio products
TA Associates
United States
United States
0.1
10
Paradigm Precision Holdings
Manufacturer of precision machined components
American Capital Strategies
United States
United States
0.1
Source: Dealogic
Private Equity deals as a percentage of total (by volume), 2000-07
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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The future We expect that the drivers we have outlined on the preceding pages will sustain high levels of M&A in the sector over the next one to two years barring any unforeseen ‘extraneous’ events. It is only relatively recently that corporate investors have returned to the market and they need to make up for lost time to position themselves appropriately for the future. Given current high corporate profits and the constraints on debt financing for large Private Equity deals, we may see the balance of power swinging back towards the corporate investor for the first time in many years. We expect to see US corporates on the hunt for European, and particularly UK, assets, continuing Tier 2/3 consolidation, and asset-shuffling between major players as they realise that focused scale is important and make their choices about where to concentrate their efforts. However, the current USD/ EUR exchange rate remains a barrier. The search for ‘dollarisation’ of the cost base by large European companies may put a temporary brake on the possibility of significant Intra-European deals, but
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smaller Tier 2/3 deals based on operational synergies will continue. Finally, there is a longer-term requirement to consolidate the land and naval supply base in Europe, but this is currently constrained by protected national supply bases. And below this, the search for strong positions in new technologies will go on, providing an ‘undercurrent’ of M&A. Particularly high growth market segments that may see more of this activity include: • Composite materials and aerostructures • C4ISR • Aviation services • Homeland Security. The themes we have covered will be played out, to varying degrees, over the course of the next two to three years. The implications for the global A&D industry will be dramatic, but they will shape the structure of the industry for the next decade to come. We look forward to debating the themes presented in this document with you and to assist you in defining and implementing your M&A strategy in the sector.
PricewaterhouseCoopers
Contacts PricewaterhouseCoopers’ A&D practice is a global network of over 70 partners and 2000 client service professionals who provide industry-focused assurance, tax and advisory services to A&D companies around the world. For example, we provide services to 60 percent of the A&D manufacturers listed in the Flight International Aerospace Top 100. For further information, please contact our A&D key contacts:
PwC A&D country leaders:
PwC A&D Transactions Services contacts:
Neil Hampson Global and UK A&D Leader Tel: +44 20 7804 9405 [email protected]
Andrew McCrosson UK – Partner Tel: +44 20 7213 5334 [email protected]
Daniel (Skip) McConeghy US A&D Leader Tel: +1 312 298 4343 [email protected]
Matthew Alabaster UK – Director Tel: +44 20 7804 9642 [email protected]
Guillaume Rochard France Aerospace & Defence Co-Leader Tel: +33 156 57 8208 [email protected]
Andrew Cristinzio US – Partner Tel: +1 703 918 1474 [email protected]
Jürgen Seibertz Germany A&D Leader Tel: +49 211 981 2845 [email protected]
Chandra Chudamani US – Director Tel: +1 703 918 1482 [email protected]
Corrado Testori Italy A&D Leader Tel: +39 (06) 5702 52442 [email protected]
Conor Larsen Germany – Partner Tel: +49 211 981 4785 [email protected]
Augusto Assuncao Brazil A&D Leader Tel: +55 19 3794 5408 [email protected] Doris Tu China A&D Co-Leader Tel: +86 10 6533 2850 [email protected]
PwC A&D Corporate Finance contact: Darren Jukes UK – Director Tel: +44 207 804 8555 [email protected]
Wilson Liu China A&D Co-Leader Tel: +86 10 6533 2278 [email protected] Dhiraj Mathur India A&D Leader Tel: + 91 11 4115 0309 [email protected] Flying High
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Acknowledgements: Data analysis for this industry summary was provided by Felicien Dillard and Stephane Vinot in the PwC UK Strategy Group. Thanks go to Matthew Alabaster, Guillaume Rochard, Chandra Chudamani and Darren Jukes for their contributions to developing the A&D industry perspectives presented in this paper. Thanks also to Anthony White for providing marketing support to launch the paper and to Carol Ruby for design and production.
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www.pwc.com/aerospaceanddefence
PricewaterhouseCoopers has taken all reasonable steps to ensure that the information contained herein has been obtained from reliable sources and that this publication is accurate and authoritative in all respects. However, it is not intended to give legal, tax, accounting or other professional advice. If such advice or other expert assistance is required, the services of a competent professional should be sought. © 2008 PricewaterhouseCoopers. All rights reserved. ‘PricewaterhouseCoopers’ refers to the network of member firms of PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity. PricewaterhouseCoopers (www.pwc.com) provides industry-focused assurance, tax and advisory services for public and private clients. More than 120,000 people in 144 countries connect their thinking, experience and solutions to build public trust and enhance value for clients and their stakeholders. PricewaterhouseCoopers refers to the network of member firms of PricewaterhouseCoopers International Limited, each of which is a separate and independent legal entity. Important notice for US residents: In the US, corporate finance services are provided by PricewaterhouseCoopers Corporate Advisory & Restructuring LLC. PricewaterhouseCoopers Corporate Advisory & Restructuring LLC is owned by PricewaterhouseCoopers LLP, a member firm of the PricewaterhouseCoopers Network, and is a member of the FINRA and SIPC. PricewaterhouseCoopers Corporate Advisory & Restructuring LLC is not engaged in the practice of public accountancy. For US residents requiring further information on corporate finance related services, please contact our registered FINRA Broker Dealer within the US, PricewaterhouseCoopers Corporate Advisory & Restructuring LLC, who can be contacted directly at [email protected], telephone +1 312 298 2895, fax +1 813 375 7416. *connectedthinking is a trademark of PricewaterhouseCoopers LLP. (0800523_ad_clr/(ptw)
Flying High* Aerospace & Defence M&A
*connectedthinking
Contents Welcome. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Overview of deal activity. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Geographic trends. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 Industry performance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Private Equity investment. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 The future . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16 Contacts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
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Welcome Welcome to Flying High 2008 – a review of M&A activity and key trends within the Global Aerospace & Defence (A&D) sector by PricewaterhouseCoopers. Last year’s review of M&A activity concluded that the total value of disclosed transactions in the sector in 2006 was comfortably the highest since 2000. 2007 saw disclosed transactions totalling nearly $31bn, confirming our view that the industry remains strong despite recent downturns in other sectors. Our clients within the A&D industry, governments and the financial community frequently seek our advice on the broad industry themes underpinning many of these transactions. In this document, we aim to share our insight into some of the key trends we have observed and where we feel the A&D M&A market is heading.
• The US has been the most significant investor in 2007, with the bulk of investment coming from repositioning in the domestic market • Intra-European deals have been notably absent due to the weak dollar depressing margins and making North American assets cheaper • 2007 was a record year for transatlantic M&A, with money crossing both ways • Private equity participation in the sector continues to increase and contribute to increasing average deal size. This document presents only an introduction to our thoughts on the A&D sector – a challenging industry in which PricewaterhouseCoopers, with its experienced and dedicated sector team, is firmly entrenched.
The key observations that we explore in this paper are: • Buoyant A&D activity remains centred in North America and Europe, but transactions involving other geographic regions continue to rise
4
Neil Hampson Global A&D Leader
PricewaterhouseCoopers
Overview of deal activity Still on the up The disclosed value of deals in the sector reached $30.8bn in 2007, up from $29.2bn in 2006. The last two years have been comfortably the highest since 2000, but still some way below the $50bn seen in that year. Given that 2007 did not contain any of the ‘mega deals’ that drove 2000 levels (eg. Northrop/Litton or Thales/Racal), this represents very high underlying investment rates. Average deal size has also grown from a low of $100m in 2003 to $280m in 2007, reflecting the more strategic nature of deals, improved profits and higher multiples. Both corporate and financial buyers have been competing for quality assets. In addition, all areas of the sector are currently buoyant. In civil aerospace, backlogs for commercial aircraft reached an all time high in 2007, with Boeing and Airbus having a combined 6,848 aircraft on order by the end of the year. Their combined order intake of 2,754 in 2007 smashed the previous high of 2,057 in 2005. Order backlog now represents around 7.5 years of production at current build rates. While programme delays continue to make the headlines for Boeing and Airbus, and driving a consequential level of uncertainty for suppliers and their investors, we believe these delays are an understandable function of the rate of innovation. However, this innovation challenge, in terms of aircraft size and complexity (A380) and materials/ supply chain (B787) has not had any material impact on M&A. Indeed, M&A due diligence is increasingly focused on the positioning of suppliers for the next generation of aircraft: A350 and the single aisle replacements for A320 and B737.
The regional sector has recovered strongly in recent years and demand for business jets reached a similar all time high driven by corporate profits as well as strong growth from the Middle East and Asia. The continued restructuring of the supply chain by Boeing and Airbus has also contributed to deal activity throughout all levels of manufacturing. The divestment programme of a number of Airbus facilities, as part of its Power8 programme, is currently the most visible example. This new approach by Airbus is still in its infancy and is likely to continue throughout the supply chain over a number of years. In defence, several major programmes in the US and Europe are in the ‘ramp up’ phase of production and ongoing military commitments in Iraq and Afghanistan are supporting high demand for spares, overhaul and retrofit. Additionally, flatter defence spending in Europe has led European primes and suppliers to continue to seek areas of geographic growth away from their home markets. We do not expect the US election process at the end of 2008, nor any new administration, to have any noticeable dampening effects on either US or international M&A. As with previous years, defence procurement continues to focus on a small number of large, high value programmes, but there remains a need to refocus spending on land, C4ISR*, homeland security and upgrades to existing platforms. We conclude that the A&D industry remains strong and that M&A is a visible sign of confidence alongside new programme developments and capital expenditure.
* Command, Control, Communications, Computing, Information, Surveillance & Reconnaissance
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Total disclosed deal value ($bn), 2000-07 46.0 0.7
15.6
29.2 25.8
29.7
1.2 19.9 0.4
12.1
5.8 13.7
12.4
2000
2001
North America
2002 Europe
24.0
24.4
1.7
0.4
0.5
12.8
17.2 0.7
30.8 1.4 10.4
8.8 15.0
7.8 8.8
8.6
2003
2004
15.1
14.6
2005
2006
19.0
2007
RoW
Source: Dealogic Note: Rest of World (RoW)
Average deal size ($m), 2000-07
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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PricewaterhouseCoopers
Top 10 Aerospace & Defence deals in 2007 Target
Target Description
Bidder
Target Nation
Bidder Nation
Value ($bn)
1
Smiths Aerospace
First-tier supplier to UK and US aircraft and engine manufacturers
General Electric
United Kingdom
United States
4.8
2
Armor Holdings
Major supplier of armoured vehicle systems
BAE Systems
United States
United Kingdom
4.5
3
Sequa Corp.
Supplier of advanced repairs for jet engine parts
Carlyle Group
United States
United States
2.6
4
Standard Aero Landmark Aviation
Provider of maintenance and overhaul services to military, regional and business aircraft
Dubai Aerospace
United States
United Arab Emirates
1.8
5
K&F Industries
Manufacturer of wheels, brake products and fuel tanks for commercial, military and general aviation aircraft
Meggitt
United States
United Kingdom
1.8
6
EDO Corp.
Supplier of highly engineered products and systems for defence, aerospace and industrial applications
ITT
United States
United States
1.5
7
Aeroflex
Producer of microelectronic and testing solutions used in aerospace & defence
Veritas Capital United States GS Direct Golden Gate Capital
United States
1.1
8
McKechnie Aerospace
Manufacturer of aerospace parts
JLL Partners
United Kingdom
United States
0.9
9
ACTS
Provider of airframe, engine and component maintenance
KKR Sageview Capital
Canada
Canada
0.7
10
Aviation Technologies Inc.
Manufacturer of aerospace components
TransDigm Group Inc
United States
United States
0.4
Source: Dealogic
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Geographic trends Of the $30.8bn invested in 2007, nearly two thirds was invested in North America and only a third in Europe. This compares to the much more balanced profile seen in previous years, and points to a weaker M&A market in Europe and the strongest year in North America since 2000. After a pause for breath in 2006, international deals came back strongly in 2007, with total deal value more than trebling to $14.4bn.
Europeans unwilling to invest in home markets
North American deals continue apace Despite the European inflow, North American investors still accounted for the majority of North American acquisitions, investing $10.3bn during the year. This represents more than half of all A&D investment globally and suggests that US A&D companies are continuing the trend of acquiring technology and positions on US military and civil programmes. Examples of this include ITT’s acquisition of EDO and PCC’s acquisition of Cherry Aerospace.
Gathering momentum in emerging markets
Deals involving a European buyer and a European target fell by 80% in 2007. This ‘intra-European’ M&A has suffered not only because the EU market is seen as less attractive – this has long been the case – but also because the weak dollar has depressed European profits (largely dollar denominated) and made North American targets cheaper. EU buyers were reticent to acquire additional Euro-denominated cost bases, seeking instead to ‘dollarise’ wherever they could. Ongoing uncertainty at the level of long term defence spending in Europe and specific programme unit reductions has also made European investments less attractive.
Deals with A&D companies in the rest of the world (RoW), although only accounting for 5% by value in 2007, represented 20% of all deal volume, a steady growth from one in ten deals in 2000.
As a result, European companies invested over four times more in the US in 2007 than they did in 2006.
Of these countries, India may be the one to watch given its growing budget and increasingly favourable environment towards foreign ownership.
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Of the 43 announced RoW deals in 2007, 25 represented investments in Brazil, Russia, India and China (the ‘BRIC’ countries). More than three quarters of the deals in these countries in the last two years have been internally generated (i.e. deals executed by BRIC investors), indicating either a scaling up by regional A&D companies, or broader support from local financial investors.
PricewaterhouseCoopers
Geographic split of disclosed deal value, 2000-07 1% 34%
2%
5%
4%
29%
47%
45%
1%
2%
63%
36%
6% 44%
5% 34%
69%
65%
62% 51%
48%
61% 50%
36%
2000
2001
2002
2003
Europe
North America Destination of investment
2004
2005
2006
2007
RoW
Source: Dealogic
Geographic split of disclosed deal volume, 2000-07 11% 38%
16% 43%
51%
13%
16%
38%
49%
37%
47%
12%
14%
14%
38%
44%
33% 30%
Destination of investment
2002 2003 Europe
53%
50%
50%
42%
41%
2000 2001 North America
20%
2004 RoW
2005
2006
2007
Source: Dealogic
RoW deal volume, 2000-07 49
49 5 39 1
44
45
4
21
13
1
10 33
12
5
8 30
19
7
14
19
43
8
2
3
3 19
12
6 25
6
6
17
14 13
14 9
14
15
2005
2006
7
2000 BRIC
2001
Destination of investment
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2002
Asia
2003
2004
RoW (Europe & NA excl)
Source: Dealogic
2007
Middle East
Note: Brazil, Russia, India and China (BRIC)
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Transatlantic deals back in force The value of transatlantic deals rose from $1.9bn in 2006 to $12.6bn in 2007, the highest level we have on record. The investment in both years continues to be concentrated between the United States and the United Kingdom. Many US primes and Tier 1 suppliers have been seeking ‘achievable’ deals in Europe for some time and the UK has proved to be the only fruitful country. The UK Defence Industrial Strategy of 2005/06 paved the way for more international investment in defence assets and the UK remains the world’s second largest aerospace industry. Two of the largest deals in 2007 were therefore US/UK: GE’s $4.8bn acquisition of Smiths Aerospace and JLL Partners’ $0.9bn acquisition of McKechnie Aerospace. UK investments into the US in 2007 were in excess of $6bn. BAE Systems followed its 2005 $3.5bn acquisition of United Defence with the $4.5bn acquisition of Armor Holdings in 2007, accounting for more than half of all European investment. Meggitt Plc also completed its $1.8bn acquisition of K&F Industries.
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Most of the remaining UK listed A&D midcaps have been publicly discussed as potential targets and many privately owned businesses and non-core divisions of larger industrial groups are being examined by corporates and financial investors alike. Europe has generally been viewed as less attractive by US investors, due to a combination of the high value of the Euro, a less stable level of defence spending and the perceived difficulty in rationalising the supply base due to ongoing social, government, and union pressure.
Middle East focuses on the US as well as Europe Another feature of M&A activity over the last two years has been the emergence of Middle-Eastern investors. 2006 saw the acquisition of Doncasters and SRTechnics in competitive auctions from private equity owners. Continuing the trend, 2007 has also seen the acquisition of Standard Aero by an emerging group of powerful investors tasked with creating an indigenous aerospace capability in the region. These investors have seen, and continue to see, long term expansion and technology transfer opportunities offered by US and European based assets.
PricewaterhouseCoopers
Acquisition money flows, 2007
North America
$6.0bn
Europe
$6.6bn
$1.8bn
$2.1bn
$10.3bn Middle East
Source: PricewaterhouseCoopers
Acquisition money flows, 2006
$0.4bn North America
Europe $1.5bn
$11.1bn
$13.1bn Middle East
Source: PricewaterhouseCoopers
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Total disclosed value of transatlantic M&A ($bn), 2000-07 15 12.6
10 6.7 5.9 5.0
5 2.6
2.3
0
2000
2001
2002
2.4
2003
1.8
2004
2005
2006
2007
Source: Dealogic
Balance of disclosed value of transatlantic M&A ($bn), 2000-07 2.8
To the US
1.1
1.3 0.8
0.6
To Europe 1.0 1.7 1.9
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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PricewaterhouseCoopers
Industry performance Margins improving consistently Industry profit margins continued to improve in 2006/7, showing a consistent upward trend from the lows of 2003. In addition, our analysis shows that Tier 1 and Tier 2 suppliers have the highest average profitability due to their ability to capture and exploit proprietary technologies and aftermarket revenues.
Tier 1 suppliers have improved both average and peak operating performance as they seek to manage risk in an increasingly complex technical environment. Tier 2 suppliers have the largest spread in overall financial performance, with those companies with true technical leadership able to achieve significantly superior margins to the rest of the industry, whilst overall tier profitability is diluted by a large number of smaller, more inefficient and poorly positioned suppliers.
Primes have remained broadly stable and have low variability in profitability due to their broad ‘de-risking’ strategies.
Average operating margin of Top 100 Aerospace companies (%), 2000-06
2000
2001
2002
2003
2004
2005
2006
Source: Flight International Aerospace Top 100 in association with PricewaterhouseCoopers. Available at www.flightglobal.com
Aerospace Top 100 Operating Margin 43.7%
40%
37.8%
30%
21.6%
20% 12.0%
10%
7.6% 5.0%
11.3%
11.6%
22.1%
12.1%
21.1%
10.8%
10.9%
10.3% 7.6%
6.5% 1.0%
0.0% -2.1%
0% -5.6%
-8.5%
-20%
Margin 2005
13.5%
-10%
-17.7%
Primes
Tier 1
Tier 2
Tier 3
‘De-risk’
‘Manage Risk’
‘Winners & Losers’
‘Taking Advantage
March 2006 Weighted average
... for now’ Source: Flight International Aerospace Top 100 in association with PricewaterhouseCoopers. Available at www.flightglobal.com
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Private Equity investment Private Equity reaches an all time high Private Equity participation in Aerospace & Defence M&A reached an all time high in 2007. Deals involving financial investors, as either buyer or seller, reached 36% of all disclosed deals and five of the top ten. This follows the trend of steadily increasing participation since 2000. Private Equity has been attracted by the restructuring and globalisation in the supply chain, and has provided much needed liquidity in the market as larger players divest assets and the supply chain consolidates. Private Equity investments have not been confined to US and UK, with investments being made across Europe. This trend is likely to continue as Airbus signals the need to reshape the supply base. Thoughts are starting to turn to the timing of the next civil aerospace downturn. With a typical investment horizon of three to five years, financial investors need to be confident that investee companies will still be in a growth phase well beyond 2011 if they are to command high exit multiples. In addition, investment in new aerospace programmes such as A350 and next generation A320/B737 will need to be closely examined for their impact on near term cash flows.
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However, the industry provides a sufficiently broad range of business models to attract investors that do not feel comfortable with the inherent volatility of the commercial Original Equipment (OE) build segment. Military OE, spares and services such as maintenance, repair, and overhaul can all offer more stable and predictable profit streams, irrespective of the civil aerospace build cycle. Finally there are opportunities for good suppliers to access above-market growth through the supplier rationalisation or outsourcing discussed above. Providing investors can get comfortable that they are backing a winner (more often than not a question of management), the rewards are substantial. The credit crunch has put a temporary brake on Private Equity’s ability to play in the large deal market, but we continue to see plenty of activity in the mid-market. And given weakness in many consumer-driven industry sectors, more financial investors may find Aerospace & Defence businesses attractive, with their ability to access structural growth and international markets.
PricewaterhouseCoopers
Top 10 Aerospace & Defence deals involving Private Equity in 2007 Target
Target Description
Bidder
Target Nation
Bidder Nation
Value ($bn)
1
Sequa Corp
Supplier of advanced repairs for jet engine parts
Carlyle
United Kingdom
United States
2.6
2
Standard Aero Landmark Aviation
Provider of maintenance and overhaul services to military and business aircraft
Dubai Aerospace
United States
United Arab Emirates
1.8
3
Aeroflex
Producer of microelectronic and testing solutions used in aerospace & defence
Veritas Capital United States GS Direct Golden Gate Capital
United States
1.1
4
McKechnie Aerospace
Manufacturer of aerospace parts
JLL Partners
United Kingdom
United States
0.9
5
ACTS
Provider of airframe, engine and component maintenance
KKR Sageview Capital
Canada
Canada
0.7
6
Global Design Technologies
Aerospace component supplier
Bridgepoint Capital
United States
United States
0.3
7
Hunter Defence Tech
Manufacturer of military and homeland defence products
Metalmark Capital
United States
United States
0.3
8
BAE Inertial Business
Manufacturer of inertial products for automotive and military applications
JF Lehman
United Kingdom
United States
0.1
9
Free Wave Technology
Military data and radio products
TA Associates
United States
United States
0.1
10
Paradigm Precision Holdings
Manufacturer of precision machined components
American Capital Strategies
United States
United States
0.1
Source: Dealogic
Private Equity deals as a percentage of total (by volume), 2000-07
2000
2001
2002
2003
2004
2005
2006
2007
Source: Dealogic
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The future We expect that the drivers we have outlined on the preceding pages will sustain high levels of M&A in the sector over the next one to two years barring any unforeseen ‘extraneous’ events. It is only relatively recently that corporate investors have returned to the market and they need to make up for lost time to position themselves appropriately for the future. Given current high corporate profits and the constraints on debt financing for large Private Equity deals, we may see the balance of power swinging back towards the corporate investor for the first time in many years. We expect to see US corporates on the hunt for European, and particularly UK, assets, continuing Tier 2/3 consolidation, and asset-shuffling between major players as they realise that focused scale is important and make their choices about where to concentrate their efforts. However, the current USD/ EUR exchange rate remains a barrier. The search for ‘dollarisation’ of the cost base by large European companies may put a temporary brake on the possibility of significant Intra-European deals, but
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smaller Tier 2/3 deals based on operational synergies will continue. Finally, there is a longer-term requirement to consolidate the land and naval supply base in Europe, but this is currently constrained by protected national supply bases. And below this, the search for strong positions in new technologies will go on, providing an ‘undercurrent’ of M&A. Particularly high growth market segments that may see more of this activity include: • Composite materials and aerostructures • C4ISR • Aviation services • Homeland Security. The themes we have covered will be played out, to varying degrees, over the course of the next two to three years. The implications for the global A&D industry will be dramatic, but they will shape the structure of the industry for the next decade to come. We look forward to debating the themes presented in this document with you and to assist you in defining and implementing your M&A strategy in the sector.
PricewaterhouseCoopers
Contacts PricewaterhouseCoopers’ A&D practice is a global network of over 70 partners and 2000 client service professionals who provide industry-focused assurance, tax and advisory services to A&D companies around the world. For example, we provide services to 60 percent of the A&D manufacturers listed in the Flight International Aerospace Top 100. For further information, please contact our A&D key contacts:
PwC A&D country leaders:
PwC A&D Transactions Services contacts:
Neil Hampson Global and UK A&D Leader Tel: +44 20 7804 9405 [email protected]
Andrew McCrosson UK – Partner Tel: +44 20 7213 5334 [email protected]
Daniel (Skip) McConeghy US A&D Leader Tel: +1 312 298 4343 [email protected]
Matthew Alabaster UK – Director Tel: +44 20 7804 9642 [email protected]
Guillaume Rochard France Aerospace & Defence Co-Leader Tel: +33 156 57 8208 [email protected]
Andrew Cristinzio US – Partner Tel: +1 703 918 1474 [email protected]
Jürgen Seibertz Germany A&D Leader Tel: +49 211 981 2845 [email protected]
Chandra Chudamani US – Director Tel: +1 703 918 1482 [email protected]
Corrado Testori Italy A&D Leader Tel: +39 (06) 5702 52442 [email protected]
Conor Larsen Germany – Partner Tel: +49 211 981 4785 [email protected]
Augusto Assuncao Brazil A&D Leader Tel: +55 19 3794 5408 [email protected] Doris Tu China A&D Co-Leader Tel: +86 10 6533 2850 [email protected]
PwC A&D Corporate Finance contact: Darren Jukes UK – Director Tel: +44 207 804 8555 [email protected]
Wilson Liu China A&D Co-Leader Tel: +86 10 6533 2278 [email protected] Dhiraj Mathur India A&D Leader Tel: + 91 11 4115 0309 [email protected] Flying High
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Acknowledgements: Data analysis for this industry summary was provided by Felicien Dillard and Stephane Vinot in the PwC UK Strategy Group. Thanks go to Matthew Alabaster, Guillaume Rochard, Chandra Chudamani and Darren Jukes for their contributions to developing the A&D industry perspectives presented in this paper. Thanks also to Anthony White for providing marketing support to launch the paper and to Carol Ruby for design and production.
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