The economics of bolt-on acquisitions
In private equity, we make primary investments and bolt-on investments. A primary investment is a direct investment of cash into a new business (often in a new industry). A bolt-on investment is an investment via an existing portfolio company into a business that presents strategic value (usually in the same industry).
Primary investments get most of the press. But, many private equity funds spend just as much cash on bolt-on investments. And, bolt-ons have the potential to create much more value (I’ll explain why later). So, it pays for a private equiteer to give up some of the glitz and glamour of primary investments to become a quiet achiever through bolt-ons. Here are a few of my thoughts:
- Bolt-ons are usually smaller businesses, which attract lower multiples with better terms
- Bolt-ons provide the chance to create instant value (by acquiring lower multiple businesses using a higher multiple vehicle – see Public versus Private multiples)
- Bolt-ons often require less work because they are smaller and attract less competition
- Bolt-ons offer strategic value (revenue and cost synergies), meaning you can pay a little more and be more successful in an auction process
- Bolt-ons provide for easier due diligence since you have access to industry experts in your primary investment vehicle (access to this experience is invaluable)
- Bolt-on owners are more likely to do a deal with a larger industry player, since there is prestige in being part of a leading firm (compared to being gobbled up by financial vultures)
- Bolt-ons give you access to a whole new market of potential investees as certain mandated restrictions (regarding size) don’t apply
With that said, there are countless studies lamenting the destruction of value that occurs daily via mergers and acquisitions. So, it’s imperative to maintain focus on likely integration issues and ensure there’s a cultural fit. See my post in which I describe most bolt-ons as clip-ons (citing their failure to integrate and lack of strategic fit.)
Really interesting post, I guess bolt-on’s are an alternative to primary/platform investments from the point of view of PE house time & money.
I think there’s a 3 way relationship in that you have to evaluate them not only against other primary deal opportunities, but also against the alternatives for growing your primary investment organically.
I am also highly sceptical about “instant value” – if anything poorly conceived and unintegrated bolt ons will pollute the primary multiple and destroy value. And bear in mind integration takes years rather than months.
It is interesting that in the UK a lot of the PE houses still doing OK are wedded to buy and builds.
Alex
30 Nov 09 at 07:49
Good point: “instant value” is a little irresponsible of me. Transaction costs can really mount after you consider DD, legals, downtime, etc., and then there’s the cost of integration, which you suggest can take years.
Our most recent bolt-on really was a “clip-on”, but the consolation is that while our primary investment has had issues, the bolt-on (which is about 80% the size of the primary) has done very well. Forgetting that, it’s quite difficult to measure (or even see) the synergistic value.
Interesting observation re: buy and build. Not surprising though. Someone recently suggested we put a homewares store together with a device distributor citing synergies at the head office level. I think that’s what diverts focus and gets businesses into trouble (tenuous synergy hypotheses).
The Private Equiteer
30 Nov 09 at 23:14
[...] course there are the smaller theories that are just as significant, such as the economics of bolt-ons, but it’s the bigger picture that sets the stage and colours one’s view of everything [...]
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15 Feb 10 at 01:42
Far too many shops are snapping up bolt-ons too soon and forget that a bolt-on can only truly be useful once the core investment has begun to flow. Unless the primary is primed to boom then I think bolt-ons, no matter how successful they are in their own right, are an unrewarding pursuit.
BR PE
16 Jun 10 at 07:03