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An Organic Question: Region’s manufacturers weigh paths to growth

 

December, 17 2013

An Organic Question: Region’s manufacturers weigh paths to growth

family-owned Padnos Plastics SolutionsThe family-owned Padnos Plastics Solutions’ conservative culture has it focusing on organic growth “in a way we can handle,” said Ben Irwin, the company’s director of finance, left. Padnos recently reached capacity at its 44th Street location in Wyoming, which handles plastic and scrap metal recycling. The recycler opted to expand by buying a facility in Fremont, Ind. to be close to customers and the Interstate 80/90 corridor. Irwin is shown with Randy Knibbe, center, and Jonathan Padnos, right.PHOTO: JEFF HAGE

Padnos Plastics Solutions Inc.’s growth strategy can be summed up in one word: measured.

As a division of a multi-generational, family-owned company that’s been in business for more than a century, Padnos’ conservative culture supports a strategy based on steady, organic growth, said Ben Irwin, the Holland-based company’s director of finance.

So Padnos Plastics didn’t come lightly to the decision last month to invest in its first out-of-state expansion with the purchase of a 120,000-square-foot facility in Fremont, Ind.

“We thought the time was right to broaden our horizons and [expand] out of the state,” Irwin told MiBiz.

Growth for some companies, it seems, can be a tricky endeavor.

“The company is very conservative, and we look to grow in a way we can handle,” Irwin said.

Forecasts show West Michigan’s manufacturers should find conditions ripe for growth in the new year, but it appears the region’s sectors are taking different paths toward expansion.

Many manufacturers like Padnos and other companies — particularly in the office furniture industry with its tepid growth in recent years — have taken an opportunistic, measured approach to expansion. By contrast, automotive supply chain manufacturers have had to grow out of necessity. Facing capacity constraints, suppliers kicked off a flurry of mergers and acquisitions so they could fill a rush of orders as the automotive industry came roaring back from near collapse in 2008.

“Right now, most of my client base — roughly two-thirds — is either looking at a potential acquisition, or potentially looking at being acquired,” said Tony Lawrence, Grand Rapids-based managing partner for BDO USA LLP, an accounting and consulting firm.

In nearly 20 years of practice primarily with auto-sector clients, Lawrence said he hasn’t seen many periods with that amount of dealmaking occurring. The high volume of transactions can be attributed to suppliers looking to take advantage of the last four or five years of automotive-sector growth, Lawrence told MiBiz.

Lately, automotive component manufacturers have had to expand out of necessity to increase capacity, said Mike Wall, an automotive analyst with IHS Automotive. With his company projecting 41 new vehicle launches next year, suppliers are working at 80-90 percent capacity in many cases and are in need of additional space, new machines and more workers, he said.

“Increasingly, they need more of that capacity,” Wall said. “They even need the plant floor space. So it’s forcing a lot of suppliers to … buy the book of business and (buy the) … manufacturing facility because they need every square foot they can get.”

After reaching capacity at a 450,000-square-foot facility on 44th Street SW in Wyoming that it purchased in 2008, Padnos Plastics Solutions looked to expand. The facility, which handles both plastic and scrap metal recycling, began with just a few employees but has grown to employ more than 100 people, Irwin said.

“We are reaching capacity (at the Wyoming facility), but keep finding operational efficiencies,” he said.

Given the relative difficulty of moving scrap, the full-service recycler with a dozen locations in West and Mid-Michigan felt it needed to be closer to its customer base along the Interstate 80/90 corridor, eventually settling on a site in Fremont, Ind.

Another contributing factor that helped sweeten the pot: The Indiana Economic Development Corporation (IEDC) offered up to $75,000 in tax credits and $40,000 in training grants that helped make the expansion that much easier, Irwin said.

Capacity constraints and a desire to be closer to a cluster of customers also led Holland-based Advanced Furniture Testing to an expansion in Indiana, said President Doug Woodard. The company would have considered an acquisition, but the only other firms in its niche of testing and verifying furniture products and components were billion dollar companies.

“There was no one to acquire,” Woodard said.

With no real acquisition targets, the company decided to expand from within, buying a facility in Jasper, Ind. to further expand its capacity and to get closer to several furniture manufacturers clustered in that area.

Tale of two industries

The biggest difference between the automotive sector and the furniture sector currently is that automotive component manufacturers have experienced the highs and lows of the economy many more times than their counterparts have, BDO’s Lawrence said. When auto suppliers feel an uptick in the economy, they tend to act more aggressively than office furniture companies when it comes to dealmaking, he said.

Last year, the automotive sector experienced 17.5-percent growth in North American production to 15.4 million units from 13.1 million units in 2011. Growth in the automotive sector continues this year, as production is forecast to reach 16.1 million units, albeit at a much slower pace of 4.5 percent, according to IHS.

Meanwhile, production in the office furniture industry actually dipped 1.1 percent last year and is expected to grow 1.7 percent this year and 3.2 percent next year, according to the Business and Institutional Furniture Manufacturers Association.

Companies in the office furniture sector are more likely to look to M&A now because when “the economy is going gangbusters,” manufacturers are more apt to grow organically, said John Kerschen, managing director of The Charter Group, an M&A advisory firm based in Grand Rapids. That’s because acquisitions typically become less affordable as companies perform better as the economy improves, he said.

Earlier this year, The Charter Group launched a practice group specifically aimed at serving an anticipated wave of M&A in the still-recovering office furniture industry. Kerschen said at the time that the industry’s dealmaking activity is being driven by rebounding corporate valuations and improved performance as the economy recovers.

The availability of cheap debt and banks’ willingness to work with acquirers and sellers on the transactions also have a positive impact on M&A activity, he said.

Even in situations when a company does not have enough cash on hand to make an acquisition, banks are more willing to finance deals, given the proper circumstances, Lawrence said. Banks are willing to take on some risk right now and will look at the two companies involved — particularly at their cash flow and any possible synergies — and lend based on those valuations, he said.

“They’re not going to give you a lot of credit for the synergies, though, and I think that’s where some companies get a little frustrated with the financial institutions,” Lawrence said. “The synergies: That is where the risk is going to be downplayed.”

Positive outlook

By most accounts, manufacturers are optimistic about growth in 2014. In a November survey, the Precision Metalforming Association (PMA) found that 27 percent of respondents forecast that “economic activity will improve during the next three months, up from 22 percent in October.”

The Original Equipment Suppliers Association reported its Supplier Sentiment index remained positive at 60 in November. That was down from 66 in September based on a higher number of “unchanged” outlooks, “which is still good news because it reflects the increased optimism from the September survey,” OESA said.

Late last month, the Chicago Fed Midwest Manufacturing Index noted regional industrial output rose 5.7 percent in October compared to a year ago, which bested the national industrial output gain of 3.6 percent. Particularly, Midwest automotive output rose 8.7 percent in October from a year ago, compared to a 5.5-percent increase nationwide.

Meanwhile, Markit Economics’ Purchasing Managers Index for U.S. manufacturing showed signs of “modest growth” after it hit an eight-month high in November based on “stronger increases in both output and new orders.”

With a better flow of capital and many forecasts expecting continued growth, manufacturing could be poised for a big year in 2014, sources said.

“If the automotive industry is successful … I think you’ll see what we saw in” 2003 and 2004, Lawrence said. “Furniture … will lag behind. In other words, their ’14 may look a lot like auto’s ’13.”

While a range of sources MiBiz spoke with said M&A volumes are approaching new highs, the size of companies involved in those deals has shifted to the lower middle market and smaller firms.

“(Deals) are coming back, but they’re smaller in scale. They’re kind of flying under the radar,” said Wall of IHS. “I get the sense that there is a lot more strategic activity going on, even on the part of the (auto) suppliers themselves, as opposed to … a private equity firm coming in.”

While suppliers have a lot more cash on their balance sheets these days to fund acquisitions, those strategic buyers are still being cautious or “prudent” in approaching deals, Jim Carter, Americas automotive transaction advisory leader at EY, formerly Ernst & Young, told MiBiz for a prior report.

They’re holding off until they find the right fit in a prospective target, and they’ve been put off by the steep increase in valuations that’s corresponded with the recovery. That’s led to a “value expectations gap,”he said.

Sellers wanted to sell based on pre-crash multiples and their current historically high earnings, but buyers have had a difficult time letting go of the expectation that they could pay the lower multiples that were available during the crash.

“Because there’s a significant difference between those relative multiples, buyers and sellers weren’t agreeing on those transaction terms, and deals weren’t closing, even though buyers and sellers were talking,” Carter said. “What happens over time is the seller’s expectation does not really decline a lot, but the buyer’s willingness to pay what they perceive to be a valuation premium to achieve their strategic imperatives continues to climb. You end up with parity. Buyers’ and sellers’ views come into balance and more deals get consummated.”

MiBiz Managing Editor Joe Boomgaard contributed to this report.

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