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Capital Insights Helping businesses raise, invest, preserve and optimize capital H1 2016Auto ambition Innovation in the automotive sector pushes M&A into a higher gear Helping businesses invest, optimize, preserve and raise capital EY Capital Agenda Leading businesses are adopting a range of disciplines in four key areas to build competitive advantage: Where investing capital is on the agenda, detailed consideration should be given to the strategy behind this decision, the methods under review and the assets in focus. The EY Transaction Advisory Services team provides integrated, objective advice. Capital Insights brings the Capital Agenda to life by investigating all four quadrants and providing expert advice from EY experts so you can evaluate opportunities, make transactions more efficient and achieve strategic goals. Investing driving cash and working capital, managing the portfolio of assets Optimizing assessing future funding requirements and evaluating sources Raising strengthening investment appraisal and transaction execution Preserving reshaping the operational and capital base For EY Marketing Directors: Antony Jones, Dawn Quinn Program Directors: Jennifer Compton, Farhan Husain Consultant Sub-Editor: Luke Von Kotze Compliance Editor: Jwala Poovakatt Design Consultant: David Hale Digital Innovation Lead: Mark Skarratts Senior Digital Designer: Lynn Lorenc For Remark Global Managing Editor: Nick Cheek Editor: Kate Jenkinson Head of Design: Jenisa Patel Designer: Vicky Carlin Production Manager: Justyna Szulczewska EMEIA Director: Simon Elliott Capital Insights is published on behalf of EY by Remark, the publishing and events division of Mergermarket Ltd, 4th Floor, 10 Queen Street Place, London, EC4R 1BE. www.mergermarketgroup.com/events- publications EY | Assurance | Tax | Transactions | Advisory About EY EY is a global leader in assurance, tax, transaction and advisory services. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. We develop outstanding leaders who team to deliver on our promises to all of our stakeholders. In so doing, we play a critical role in building a better working world for our people, for our clients and for our communities. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit ey.com. About EY’s Transaction Advisory Services How you manage your capital agenda today will define your competitive position tomorrow. We work with clients to create social and economic value by helping them make better, more informed decisions about strategically managing capital and transactions in fast-changing markets. Whether you’re preserving, optimizing, raising or investing capital, EY’s Transaction Advisory Services combine a unique set of skills, insight and experience to deliver focused advice. We help you drive competitive advantage and increased returns through improved decisions across all aspects of your capital agenda. © 2016 EYGM Limited. All Rights Reserved. EYG no. 01471-163GBL ED 1016 This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax or other professional advice. Please refer to your advisors for specific advice. The opinions of third parties set out in this publication are not necessarily the opinions of the global EY organization or its member firms. Moreover, they should be viewed in the context of the time they were expressed. capitalinsights.ey.com On the web or on the move? Capital Insights is available online and on your mobile device. To access extra content and download the app, please visit capitalinsights.ey.com Twitter @ey_tas E-mail email@example.com All data in Capital Insights is current at 28 April 2016 unless otherwise stated.Capital Insights from EY Transaction Advisory Services Allies for growth Welcome note For more insights, visit capitalinsights.ey.com, where you can find our latest thought leadership, including our market-leading Global Capital Confidence Barometer. Steve Krouskos Global Vice Chair Transaction Advisory Services, EY If you have any feedback or questions, please email firstname.lastname@example.org Businesses around the globe maintain a strong acquisition appetite and a growing desire to forge new business alliances to foster innovation and talent. Persistent low economic growth, digital disruption and increasing globalization are driving today’s investment decisions and acquisition strategies. Leading companies are combining dealmaking with new strategic alliances to help multiply their growth opportunities and generate higher-returns. Within this complex environment, digital evolution continues to challenge current business models. The automotive sector is a good example, with technology giants and automakers converging around driverless car innovations. We also see automotive companies joining forces to buy the mapping technology central to that transformation in their industry. This issue of Capital Insights highlights both the impact of FinTech innovation on automotive insurance (p 26) as well as the disruptive power of the industrial Internet of Things (p 22). Executives now need to plan for the possibility of multiple futures. M&A is part of that future-proofing story. It is a transformative option for re-shaping business, accelerating growth strategies and anticipating future market trends. Acquisitions offer the prospect of competitive advantage. Increasingly, we see more strategic acquisitions for talent (p 38) as companies seek to rapidly boost their skills and innovation to compete and get ahead of the game. At the same time, alliances are attractive as companies look for new sources of revenue and earnings while carefully managing costs and risk. Alliances can monetize underutilized assets and provide access to capabilities that are better owned by others. More and more companies are taking this option to help navigate strategic direction and optimize capital allocation in an increasingly uncertain business landscape. Those companies that best achieve commercial advantage through combining strategic M&A and cooperative responses to new challenges, will be best positioned to win in this disruptive new world. Buying and bonding is now a key feature of the corporate growth agenda. © Karl Attard capitalinsights.ey.com | Issue 16 | H1 2016 3 Contents Regulars 06 Headlines The latest M&A news and trends. 11 EY on the US EY’s Richard Jeanneret on US M&A in 2016. 15 EY on EMEIA EY’s Andrea Guerzoni explores the new wave of digital disruption. 29 EY on Asia-Pacific EY’s John Hope on the impact of China’s One Belt, One Road plans. 47 EY on PE EY’s Jeff Bunder on how PE is going mainstream. 50 The last word Matthew Syed on the upside of making mistakes. 16 Exclusive interview: driving growth Capital Insights talks to PSA Groupe Peugeot Citroën CFO Jean-Baptiste de Chatillon. 22 Disruption in sight How the industrial Internet of Things is set to revolutionize business. 26 Driven by data FinTech is blurring the lines between the insurance, tech and car making industries. 08 Transaction insights Lessons from private equity. 12 Q&A: Trinity Consultants Discussing future growth and private equity partnerships. 6.4b Connected things will be in use worldwide in 2016, up 30% from 2015. Source: Gartner Contributors: Steve Allan, Head of Human Capital, M&A, Willis Towers Watson; Andrew Brown-Allan, Marketing Director, Carrot; Jean-Baptiste de Chatillon, Chief Financial Officer and Executive Vice-President of Information Systems, PSA Groupe; John Drennan, Director of Corporate Development, Trinity Consultants; Bill Ford, CEO of General Atlantic; Charlotte Halkett, Group Marketing Actuary, InsureTheBox; Akil Hirani, Managing Partner, Majmudar & Partners; Jay Hofmann, CEO, Trinity Consultants; Leanne Kemp, CEO, Everledger; Brian Moriarty, Principal, Song Hill Capital; Lisa Moyle, Head of the Financial Services and Payments Program, techUK; Vaibhav Parikh, Partner at Nishith Desai Associates; Dan Preston, CEO at Metromile; Christopher Sullivan, Senior Associate, Clifford Chance; Matthew Syed, columnist and writer; Pavlo Tanasyuk, CEO, Blockverify; Simon Taylor, Co-Founder at 11FS; Mike Wall, Director of Automotive Analysis at IHS; Ian West, Acquisitions Director at Capita; Pete Wilson, Partner at 3i; Neil Wizel, MD First Reserve. © Trinity Consultants © Paul Heartfield© Plan-B/Shutterstock.com ©RedKoala/Shutterstock.com ©aslysun/Shutterstock.com ©Alexandr III/ Shutterstock.com ©stockshoppe/Shutterstock.comCapital Insights from EY Transaction Advisory Services 6.4b Shutterstock 124024819 Image credits: Shutterstock 112183571 Shutterstock 251072017 shutterstock_257133193 shutterstock_89619325 [Converted] shutterstock_215728126 40 Selling off for value EY Global Corporate Divestment Study. 48 Mind the gap How to navigate price expectations. 30 Deal drivers As falling oil prices boost car sales, technology and consumer habits are set to push the accelerator on automotive M&A. 42 Make in India At a time of weak global growth, India provides a shining light for investors. 34 At the crossroads: energy and automotive. 38 People power Why corporates are increasingly looking to M&A for quick talent recruitment. deals, worth a total of US$46.2b were carried out in the global automotive sector in 2015. Source: Mergermarket 315 This issue’s theme: Automotive M&A How the rapid pace of technology is disrupting every aspect of this sector. 100010101010000011110011010101010101000000111111010101010101010101010100010101010000011110011010100 101010000001111110101010101010100010101010000011110011010101010101000000111111010101010101010101010 101010101000101010100000111100110101010101010000001111110101010101010101010101000101010100000111100 110101010101010000001111110101010101010101010101000101010100000111100110101010101010000001111110101 010101010101010101000101010100000111100110101010101010000001111110101010101010101010101000101010100 000111100110101010101010000001111110101010101010101010101000101010100000111100110101010101010000001 111110101010101010101010101000101010100000111100110101010101010000001111110101010101010101010101000 101010100000111100110101010101010000001111110101010101010101010101000101010100000111100110101010101 010000001111110101010101010101010101000101010100000111100110101010101010000001111110101010101010101 010101000101010100000111100110101010101010011000111111010101010101010101010100010101010000011110011 010101010101000000111111010101010101010101010100010101010000011110011010101010101000000111111010101 010101010101010100010101010000011110011010101010101000000111111010101010101010101010100010101010000 011110011010101010101000000111111010101010101010101010100010101010000011110011010101010101000000111 111010101010101010101010100010101010000011110011010101010101000000111111010101010101010101010100010 101010000011110011010101010101000000111111010101010101010101010100010101010000011110011010101010101 000000111111010101010101010101010100010101010000011110011010101010101000000111111010101010101010101 010100010101010000011110011010101010101000000111111010101010101010101010100010101010000011110011010 4% increase in black box telematics car insurance policies year-on-year 7m estimated global insurance telematics subscriptions by 2018, an increase from 5.5m at the end of 2013 4% drop in crash risk when a new driver has a telematics box .5m the number of black box policies today, an increase from 12,000 in 2009 up to 25% the insurance savings for drivers using usage-based insurance (UBI) and black box policies Oil price 5 10 15 2 25 3 35 40 45 50 © Don Farrall/Getty Images© Javier Larrea/Getty Images© Punit Paranjpe/AFP/Getty Images capitalinsights.ey.com | Issue 16 | H1 2016 5 As businesses look for new sources of revenue and earnings amid today’s fast-changing industrial landscape, alliances are becoming more attractive as growth vehicles. These strategic partnerships are being used both in addition to, and in place of, traditional M&A. Forty percent of executives in the most recent EY Global Capital Confidence Barometer are planning to enter alliances with other companies, including competitors, to help create value from underutilized assets and take advantage of the expertise and reach of others. This is already being realized in the automotive industry, as carmakers battle rapid digital disruption and the changing demands of consumers for ever more tech-savvy and connected vehicles. So far this year we have seen Alphabet Inc.’s Google team up with Fiat Chrysler Automobiles to develop a fleet of 100 self- driving minivans. And General Motors (GM) is joining forces with rideshare company Lyft in a test of self-driving Chevrolet Bolts later this year — after launching a collaborative short- term rental service Express Drive in March. Toyota has also found an alliance to help drive tech development, forging a new company in partnership with Microsoft. This off-shoot data analysis company, called Toyota Connect, will use Microsoft’s cloud computing platform Azure to help develop new technically-advanced products and services. Kurt DelBene, Executive Vice President of Corporate Strategy and Planning at Microsoft, Oil and gas deal spree Low oil prices will spur more M&A deals in the oil and gas industry this year with some companies forced to sell to avoid bankruptcy. Just 14 M&A deals worth more than US$1b each were announced last year, vs. 46 in 2014. But as firms settle into this new low-price market, strategic deals are due to boom. Back in action Pfizer has announced that it will buy Anacor Pharmaceuticals Inc. for US$5.2b, just a month after scrapping plans to acquire Allergan Plc. The Anacor deal will give Pfizer access to experimental treatments for the common skin condition, eczema, and shows a renewed focus on strengthening its drugs portfolio ahead of a decision on selling or spinning off its generic medicines business by late 2016. Pharma in front Pharma, medical and biotech (PMB) was the most active sector in April 2016, with 81 deals worth US$40.7b, a value increase of 392.6% compared to April 2015. The biggest PMB deal was the acquisition of US-based medical device company St. Jude Medical Inc. by pharmaceutical company Abbott Laboratories for US$29.8b. Resilient dealmakers A new research report from law firm Herbert Smith Freehills, Beyond Borders shows that companies are increasingly prioritizing capital for M&A. Some 39% of respondents in the initial 2015 survey were using their capital for acquisitions, with a rise to 45% after the updated 2016 survey round. News in brief M&A: partnerships prevail said the company will work with Toyota Connected “to make driving more personal, intuitive and safe.” The company is exploring developments such as a steering wheel with in-built heart monitor, a seat that doubles as a scale, vehicle to vehicle communication and virtual driving assistants. The automotive sector is not the only area in which collaboration and relationship opportunities between customers, suppliers — and even competitors are forming. Health care, industrials, construction and manufacturing sectors are all ripe for these strategic partnerships. Headlines Forty percent of executives are planning to enter alliances with other companies. © Kim Kulish/Getty ImagesFor more partnerships forming in the automotive sector, see page 30. Capital Insights from EY Transaction Advisory Services Move over megadeals While H1 saw the announcement of some huge deals — not least ChemChina’s US$43b takeover of Syngenta, and the Johnson Controls/TYCO and Shire/Baxalta deals — volumes of these megadeals that characterized 2015 deal activity are due to diminish. Deal focus is shifting to mid-size deals as businesses reshape portfolios and sell non-core assets. While falling oil prices, slower growth in China, the US Presidential election and Brexit talks have slowed activity, the fundamentals that saw strong dealmaking in 2015 remain. Low interest rates, high levels of corporate cash and access to finance continue. If current economic worries prove to be short-lived, we could see transactions, particularly in the mid-market, pick up toward the end of the year. GE forms global alliance GE Digital and EY have joined forces to empower companies to provide expertise themselves. A strategic alliance between the companies will include collaborations on advanced industrial Internet of Things (IoT) solutions to increase performance and productivity for companies with underutilized industrial equipment. Using GE’s Digital Predix cloud platform, collaborative solutions will help businesses to reduce operating expenses and increase revenue by improving asset use and streamlining workflows. EY Global Executive for the GE alliance and Global Sector Head Technology, Transaction Advisory Services, Jeff Liu says the alliance combines GE Digital’s industrial IoT technologies with EY’s IoT, data analytics and cloud capabilities to co-create solutions to help companies use their data to realize significant gains in workflows and productivity. The changing face of auto Disruption in the auto sector is rife. We look at how disruptive technologies have altered the face of the industry. To read more about the automotive sector, see page 30. 50k The new annual sales record set by Tesla in 2015 of its Model S car. 1b On Christmas Eve 2015, Uber completed its one billionth ride. 40% The rate at which Uber has been growing each quarter. 250m Forecasters predict that there will be 250m connected vehicles on the road by 2020. 740k The number of registered electric vehicles, globally by year end 2014. 12k The number of cars available to over 900,000 members of Car2Go, the world’s largest carsharing network. China investment set to soar China outbound investment is pitted to reach new historical highs in 2016. Outward foreign direct investment (FDI) grew by 13.3% in China last year, reaching a historical high of US$139.5b. EY’s recent China Outbound Investment Outlook predicts outbound investment to grow by more than 10% and maintain high growth for the next five years. In 2015, China implemented the One Belt, One Road national strategy, stimulating overseas investment. China invested US$14.8b in countries along the Belt and Road in 2015, up 18.2% from 2014. Simultaneously, outward FDI from the machinery manufacturing industry grew by 154.2% in the same period. This year has already seen large deals by Chinese enterprises including ChemChina’s acquisition of the Swiss giant Syngenta for more than US$43b and Tianjin Tianhai Investment (a subsidiary of HNA Group)’s acquisition of Ingram Micro, for US$6b. Mergermarket data values China’s Q1 deals at a total of US$81.7b. (Sources: Tesla, Fortune, Gartner, Centre for Solar Energy and Hydrogen Research, Car2Go.) To read more about the impact of the industrial IoT on the future way of doing business, read page 22. capitalinsights.ey.com | Issue 16 | H1 2016 7 PE exit strategies 2010- 2016 YTD by value A lesson in dealmaking Focus: private equity Investor returns from private equity have never been healthier: what can businesses learn from these serial dealmakers? 0 1,000 2,000 3,000 Q1 2016 2015 2014 2013 2012 2011 2010 0 100 200 300 400 500 Value US$(b) Volume Volume Value US$b 0 1,000 2,000 3,000 Q1 2016 2015 2014 2013 2012 2011 2010 Value US$(b) Volume Volume Value US$b 0 200 400 600 1 2 3 4 5 Keurig Green Mountain consortium to buy Keurig Green Mountain, Inc. for US$14.3b A consortium led by Hunt Consolidated, Inc. has announced its intention to buy Energy Future Holdings Corporation for US$12.5b Apollo Global Management, LLC to buy The ADT Corporation for US$12.3b A consortium for Qihoo 360 Technology Co. Ltd. to buy Qihoo 360 Technology Co. Ltd. (76.6% stake) for US$7.5b The Carlyle Group; GIC Special Investments Pte Ltd to buy Veritas Technologies Corporation for US$7.4b Top five announced buyouts 2015– Q1 2016 Buyouts 2010– Q1 2016 Exits 2010– Q1 2016 Top five buyout sectors by value 2010–Q1 2016 shutterstock_67341394 TMT US$380.2b, 2,434 deals Consumer US$283.6b, 2,175 deals Industrials and chemicals US$281.0b, 3,124 deals Business services US$215.8b, 2,145 deals Energy, mining and utilities US$200.9b, 856 deals Capital Insights from EY Transaction Advisory Services PE exit strategies 2010- 2016 YTD by value P rivate equity (PE) has been keeping its investors very happy over the past couple of years. Rising stock markets and deal-hungry corporates have meant that firms have had no trouble selling assets, often at eye-watering multiples. You only have to look at exit activity for evidence of PE’s recent ability to return cash. A total of US$438.8b was made from the sale of portfolio companies in 2015. In the last six years, this was only beaten by the US$521.1b earned from divestments in 2014, and puts last year more than US$100b ahead of any year between 2010—13 in terms of total exit value. “PE has really been delivering for its investors,” says Julie Hood, Deputy Global Vice Chair, Transaction Advisory Services at EY. “We saw M&A markets come to life in 2014 and 2015, and financial sponsors have taken advantage of rising markets and the high price environment. Corporate megadeals took center stage in 2015 and, while this didn’t result in PE’s strongest year for exits, it’s clear that conditions had rarely been better for funds to sell down their assets.” Exit strategies A breakdown of exit strategies reveals how strong trade sales have been for PE firms, while initial public offerings (IPOs) have dwindled from the highs of 2014. In 2015, trade sales were 69% of total exit volumes (up one percent on 2014). Meanwhile, secondary buyouts slipped four points to 26% and IPOs were 4%. Conversely, high prices have made it a challenging market in which to seal new deals. In 2014 and 2015 combined, exits outstripped new money invested by US$507b as funds capitalized on the seller’s market. However, this trend appears to be reversing. A fall in valuations and greater risk-aversion in debt capital markets at the start of 2016 is expected to filter through to the PE market, resulting in fewer company sales but more investment. “There’s a general belief in the industry that there will be fewer exits over the coming years, both because the deployment pace has been relatively low over the past years due to how high the asset prices are, but also because valuations are going to come off a bit,” says Gordon Pan, President of Baird Capital, the PE arm of Baird investment bank. Top five PE sectors by value 2010–Q1 2016 207.2 253.9 226.9 201.9 386.3 341.4 68.0 114.3 140.4 80.4 36.0 9.3 1.4 83.0 27.8 91.7 25.5 81.4 32.8 75.4 24.3 Trade sales Secondary buyouts IPOs PE exit strategies 2010–2016 YTD by value (US$b) TMT US$910.9b, 5,544 deals Industrials and chemicals US$655.8b, 5,349 deals Consumer US$565.3b, 3,530 deals Business services US$477.9b, 3,665 deals Pharma, medical and biotech US$444.2b, 2,425 deals © Vector Forever/Shutterstock.com © Kapreski/Shutterstock.com © liskus/Shutterstock.com © Honza Hruby/Shutterstock.com ©katerinarspb/Shutterstock.com © Hein Nouwens/Shutterstock.com capitalinsights.ey.com | Issue 16 | H1 2016 9 5 PE exit strategies 2010- 2016 YTD by value 1,009 1,149 1,118 1,244 1,596 1,621 354 635 624 128 96 111 8 514 73 486 52 498 67 399 110 Trade sales Secondary buyouts IPOs 1 2 3 4 EY’s Julie Hood considers five tips for navigating the near future. Move before the market does There are signs of a shift, but we’re still in a seller’s market for now. If there is anything in your portfolio due for realization or firms are coming to the end of a fund’s life cycle, now is the time to divest. Understand what you do best Identify your competitive advantage. Some funds are sector focused, some buy smaller businesses, some do buy and build. Work out what sets you apart and then maintain discipline in executing that strategy. Less debt, more value-add Debt will be harder to obtain if conditions continue. It will come at a higher cost and leverage levels will drop. This will mean genuinely adding value will be crucial to delivering returns, whether by breaking new geographies, building platform investments with add- ons or optimizing existing operations. Double check capital structures Firms’ existing companies may be able to service current debt loads today, but could struggle in the event of cash flows dropping. With high macro and geopolitical uncertainty and market volatility, it’s necessary to check that capital is structured appropriately in portfolios. Board level contingency plans Use your board seat wisely to confirm that portfolio companies have contingency plans. Just because a business is thriving now, that does not mean it will fare well in a down-market. PE lessons EY’s Hood agrees. “At some point, the market has got to change because of the amount of capital that’s been raised over the past few years. There’s been really robust exit activity and that has translated into a record amount of dry powder. Over the next couple of years, we should see more invested capital vs. distributions back to limited partners.” Sector split Between 2015—16 (year-to-date) the top five sectors for PE, in terms of value, were: technology, media and telecomms; industrials and chemicals; consumer; business services; and energy, mining and utilities. Neil Wizel, Managing Director at PE firm First Reserve, believes that 2016 will be another challenging year. “Ultimately, our view is that the long-term average oil price will be somewhere around US$60 and US$70.” With the oil price still down, now is the opportunity to realize more invested capital. “There wasn’t much pressure on corporates to sell assets to buy-out firms last year. But now, prices have been lower for longer, hedges are rolling off and capital markets are less cooperative, so there will be opportunities for asset sales.” The other end of the scale is technology. Following Facebook’s IPO in 2012, technology stocks rallied and excitement spread to unicorns (private technology companies valued above US$1b). However, recent volatility has taken the froth out of technology stocks. Bill Ford, CEO of General Atlantic, a global growth equity firm managing US$18b says: “Over the past six months we have seen a meaningful adjustment in private market values that reflect a lower outlook for global growth.” Ford is also optimistic about emerging markets. “Of course, these markets have significant challenges. But growth companies with staying power in those geographies will present very attractive investment opportunities.” And with a record US$1.3t in global dry powder at their disposal, funds will be grateful for the opportunity to invest. PE exit strategies 2010–2016 (US$b) YTD by value Capital Insights from EY Transaction Advisory Services Strong and steady The most recent EY Global Capital Confidence Barometer results show that US executives’ appetite for deals has continued into 2016, albeit at a steadier pace. A fter a year that saw US M&A boom to record value, our 14th Global Capital Confidence Barometer (CCB) shows that US executives are continuing to transact at a steady pace. The previous CCB results saw the highest level of deal intentions, with nearly 75% of US executives saying that they were planning deals. While new Barometer results slipped to 57% — this is still the third-highest percentage in the survey’s history. While trends suggest that after the highs of 2015 we are headed for a corresponding downturn, there are still signs of optimism as the first quarter of 2016 maintained the strong transaction pace of the previous year. Survey results show executives remain enthusiastic about M&A and are reshaping their growth strategies for a world of muted macro growth and competitive disruption. Companies have accepted the reality of a prolonged low-growth environment, as reflected in our respondents’ expectations of only modest or stable economic growth. But despite this, deal markets drive on as companies continue to pursue innovation through acquisitions. Nearly two-thirds of US respondents say access to new technologies is driving acquisitions across sectors. Other deal drivers include the ongoing demand for market share to generate return; commodity volatility and a strengthening dollar; and a PE-driven wave of divestitures that is multiplying assets for sale. Acquisition is not companies’ only means of acquiring innovation. They are also pursuing alliances to gain access to technologies. Almost 50% of US executives are forging such alliances. These partnerships have not reduced the appetite for traditional M&A, however. Half of US respondents say acquisitions are a top boardroom priority, more than double the rate of their global counterparts. And while shareholder activism has eased as a major boardroom priority, it has not slipped from the agenda, as nearly 75% of US respondents expect hostile bids to become more prominent. Several Barometers ago, we noted that the US was “ahead of the curve” with dealmaking. US companies emerged from the post-crisis M&A mindset sooner and began transacting earlier, ushering in this current global wave. In this Barometer, we find US boards and C-suites continuing this clairvoyant role and helping to forge a modern, two-track deal market. They are nimbly responding to the “digital- everything” wave by both forging alliances and making deals. And they are reimagining their capital agendas to anticipate a new competitive landscape. Richard Jeanneret is the Americas Vice Chair of Transaction Advisory Services, EY. View from the US © Matt Greenslade capitalinsights.ey.com | Issue 16 | H1 2016 11 “Everything starts with a strategic plan.” Jay Hofmann and John Drennan discuss the unique ownership structure at Trinity Consultants and its future growth strategy. In May, Dallas-based environmental consulting company Trinity Consultants celebrated 42 years of business. Over four decades, the company has grown to almost 600 employees in 48 offices globally, helping organizations comply with environmental regulatory requirements and optimize environmental performance for long-term sustainability. Trinity Consultants performs more than 2,000 environmental consulting projects every year, primarily focusing on Jay Hofmann (JH) is President and CEO of Trinity Consultants, based in the firm’s Dallas office. Previously serving as the company’s COO, Hofmann has been with the company for more than 30 years. John Drennan (JD) is Director of Corporate Development at Trinity Consultants, overseeing all M&A activity for the firm. permitting and compliance, as well as broader sustainability goals. Trinity has a diverse client base in highly regulated industries, including chemicals, oil and gas, electricity, cement, forest products, and general manufacturing. These are based across a number of jurisdictions, including the US, the UK, Canada, China and the Middle East. A lot has changed since the company’s founding in 1974, including its ownership structure: today, the firm has approximately 360 employee shareholders, who collectively own 44% of the company. In 2007, Trinity first recapitalized with private equity (PE), a process that was repeated in 2011 and 2015. This process involves a PE firm buying a majority ownership stake in the company, along with the employees. In August 2015, Trinity completed its third recapitalization, partnering with California- based PE firm, Levine Leichtman Capital Partners (LLCP). LLCP has managed about US$7b of institutional capital since its inception and invests widely in middle market companies in the US and Europe. The transaction saw LLCP purchase controlling interest from Gryphon Investors, who first partnered with Trinity Consultants in 2011. “I’ve been in this business for almost 20 years and private equity, in my opinion, has become the preferred method of generating shareholder equity liquidity, at least for companies of our size. ” © Courtesy of Trinity Consultants Capital Insights from EY Transaction Advisory Services | Investing | Optimizing | Preserving | Raising | Q: Why has Trinity chosen that ownership structure and does it give employees more impetus from that point of view? JH: Ever since our founder started offering stock up for sale in 1990, I felt — certainly as one of those employees buying shares — that it was a strong motivator to weather the good times and the lean times. And it also helped motivate employees to do what we could to grow the company. However, I will say that it didn’t come easily. Not everyone is in a position to invest. And, after only a short period of time the stock was valued at a price that was not insignificant. But, we got enough folks who bought in and then people began to realize the value of the opportunity. JD: The early investors bought in before they had any certainty of a liquidity event, based solely on their belief in the company. Since then, we’ve had two successful PE transactions and we’re hoping the third will be just as successful. It’s been a great story so far, one that has benefited the shareholders tremendously. I’ve been involved in M&A for almost 20 years and PE in my opinion, has become the preferred method of generating shareholder equity liquidity, at least for companies of our size. JH: It’s not easy in the early days, trying to convince people that it’s worth writing out a cheque. That was the hardest part of the whole thing, I think. Like John said, once there were some success stories, you’re not just the founder making money, but others as well — then it became easier. Part and parcel of the success of this company is that employees are material owners, and they benefit from value creation. Q: How does Trinity Consultants differ from its competitors? JH: I think the differentiator has been that we have grown the business but largely maintained our scope. A majority of our business is in air quality, however, we are quite large now for such a company with a narrow scope. We have great brand name recognition in our vertical and “Not everybody is mentally prepared to buy into a company ... but, we got enough folks who bought in and things started to snowball.” 600 Over four decades, the company has grown to almost 600 employees in 48 offices globally. © Courtesy of Trinity Consultants © Courtesy of Trinity Consultants capitalinsights.ey.com | Issue 16 | H1 2016 13 that sets us apart. Most target customers know us as a reliable “go to” resource if they have a Clean Air Act problem. Once you’ve developed a brand that is known somewhat nationally, it’s relatively easy to put dots on the map. It’s important, because at the end of the day, the work is sold primarily on a local basis. Q: How important do corporates consider sustainability, environmental and clean air issues? JH: Certainly at the site level, there is enormous attention on compliance issues. Federal and state regulatory programs are complex and have significant enforcement implications, both for companies and their responsible officials. It’s a monetary fine, it’s an inability to operate, or not getting your permits. From an operations standpoint, companies can’t afford noncompliance. My general assessment would be that not all companies think about sustainability in the same way. Certainly there is a marketing component in sustainability. Companies that sell directly to the public are naturally more sensitive to public perception issues and you see that in their advertising. We see that a little bit in our business in terms of the kinds of assistance those companies need from us. Q: How do you go about the dealmaking process? What is your acquisition strategy? JD: Everything starts with a strategic plan. That strategic plan has three or four main elements: First and foremost, we want to protect our home court — to continue to maintain market share and grow market share in our core business, which is air quality consulting. Four years ago, part of our strategic plan was to analyze where we were under-penetrated. We were under-penetrated in California, the ninth largest economy in the world, with revenues at 3%—4% of our total revenues. We strategically invested there and now, in the air market, California is about 15% of our revenue. We also look for acquisitions that compete with one of our existing offices. We bought great firms in Atlanta; Baton Rouge, LA; Irvine, CA; and in St. Louis. We’re looking internationally as well and studying markets — in the UK, Germany, and South Africa, for example. We’re trying to find markets and companies with similarities to our US business. There are other niches that we are looking into and have invested in. We acquired a firm in air quality and meteorological monitoring; an industrial hygiene and toxicology firm based in San Francisco, which was a very successful acquisition; and an aquatic science firm in Canada with two offices. Q: What are the things you look for in terms of business partnerships and acquisitions? JD: There’s got to be a highly technical component; either environmental or scientific. In conjunction with our PE sponsors, we’ve hired outside consulting “... not all companies think about sustainability in the same way.” firms to help us to fine-tune our strategic plan. If you say, “I want to buy one of these five firms,” you may be waiting forever. You have to understand in general what you’re looking for, whether it be in our core business, or in adjacencies, and be willing to act if it comes across your desk. Many of our acquisitions are not represented by investment bankers or business brokers. We reach out to people directly or through our network of people. We have almost 600 employees who are telling me frequently about a firm they ran into that’s pretty good. Then we reach out to them. It may take three to five months, or it may take three to five years to get a transaction negotiated. It just depends where they are in the life cycle of their company. For further insight, please email email@example.com Trinity Consultants has approximately 360 employee shareholders, who collectively own about 44% of the company. 44% © Courtesy of Trinity Consultants Capital Insights from EY Transaction Advisory Services Introducing digital disruption 2.0 The newest wave of digital disruption has the potential to revolutionize business models across a range of industries. The fact that streaming has overtaken digital music downloads in the US should be no surprise. Music was central in the initial wave of digital disruption. This was about the distribution of intangible digital assets. The old industry itself, the record labels and music publishers, have been dominated by companies like Apple and Spotify. The latest wave of digital disruption is centered on connectivity of physical assets. Digital disruption 2.0 is about the Internet of Things (IoT) and has the potential to revolutionize business models across a wide range of industries that produce the underlying physical apparatus. Non-tech companies acquired US$148b of technology and digital assets in 2015, more than the previous three years combined. There was also a 23% increase in the number of such deals. Major players include the industrials and automotive sectors, which account for nearly 20% of these deals. Industrials are in the midst of a technological revolution. Accelerating industrial automation and robotics are combining with sophisticated design software to disrupt the value chain and challenge the fundamental business model of many subsectors. The automotive sector is also experiencing a shift. The smart or connected car is now with us, as many automotive companies strive to be at the heart of tech advances. They have been acquiring start-ups that augment the interaction between drivers and their increasingly software enabled cars. And they are not alone. We see major tech companies such as Alphabet eyeing the automotive sector as the next field for their own disruption. One of the high profile deals in the auto- technology space was the acquisition of Nokia’s HERE digital mapping and location services business by a consortium of automotive leaders comprising AUDI AG, BMW Group and Daimler AG, for €2.8b (US$3.1b) in August 2015. Most major auto companies learned the lesson from digital disruption 1.0. Companies must understand how digital changes the direction of their industry. The next stage in the digital revolution will be driven by emerging technologies, including quantum computing, real time analytics, artificial intelligence and industrialized virtual reality. These will build on digital disruption 1.0 and 2.0 and manifest as the joining of the intangible and physical worlds. What sectors are most at risk of disruption? All of them. Companies should now be searching for the next wave of disrupters to secure their own future. Then plot their course accordingly. Andrea Guerzoni Europe, Middle East, India and Africa (EMEIA) Transaction Advisory Services Leader, EY. View from EMEIA © Tom Campbell capitalinsights.ey.com | Issue 16 | H1 2016 15 From sleeping giant to roaring lion In 2012, PSA Groupe Peugeot Citroën was at its lowest ebb. But in the past four years, the company has turned its fortunes around. CFO Jean-Baptiste de Chatillon reveals how the French auto giant got back in the race, and outlines its plans for the future. Capital Insights from EY Transaction Advisory Services © Paul Heartfield capitalinsights.ey.com | Issue 16 | H1 2016 17 The headquarters of PSA Groupe Peugeot Citroën, Europe’s second- largest carmaker, resides on the same tree-lined boulevard as the famed Parisian landmark the Arc de Triomphe, an evocative symbol of victory over adversity. The monument also provides a perfect metaphor for the fortunes of the French automobile giant. Over the past year, CFO Jean-Baptiste de Chatillon has engineered a spectacular turnaround, which saw the company move from posting a €555m (US$624.7m) loss in 2014 to a net profit of €1.2b (US$1.35b) in 2015. The outlook for the future is just as positive: the company has targeted a 10% increase in revenue by 2018, with additional growth of 15% by 2021. However, such optimism seemed little more than a pipe dream when de Chatillon became CFO in 2012. “I guess that nobody wanted the job when I took it,” he jokes. “We had accumulated losses for 2012—13 of €7b (US$7.8b). The priority at that time was to fix the holes in the boat and to keep it afloat, and to get some money inside the company as quickly as possible.” In order to “fix the boat,” the company undertook a number of capital-raising measures, including selling real estate for approximately €1b (US$1.1b), and divesting its logistics unit for €900m (US$1b). Driving change However, the CFO says that even after raising this capital, the situation remained unsustainable. To improve its fortunes, the company had to take a more radical approach. Peugeot needed to regain the trust of its shareholders, suppliers and clients. “In this industry, you cannot exist if you don’t have enough cash on your balance sheet,” says de Chatillon. “The stakeholders and suppliers are the key to reducing costs in this industry.” In 2014, the company built a new shareholder base as a way of moving forward. The French Government and the Chinese carmaker Dongfeng each invested €800m (US$900m) in the then-ailing manufacturer, while a further €1.4b (US$1.58b) was raised from existing shareholders. “[With this investment], we would effectively be at the right side of cash on the balance sheet to be able to restructure the business and regain the trust of all the stakeholders.” The company also de-risked its financing division by partnering with Banco Santander, allowing the Spanish banking group to provide car finance for the company in 11 European countries. “We had to cut the risk in our financing division to give comfort to the new shareholders. That was the trigger for the deal,” says de Chatillon. “In addition, it freed up a lot of capital to refinance the auto business. Santander is doing the financing and the risk analysis, and we are doing the business. So we have the best of both worlds. And this laid the groundwork for us to become competitive again in terms of financing.” Back in the race With financing in place, Peugeot set about implementing a radical program of change, which would return the company to its position as one of Europe’s leading car manufacturers. “There was an understanding [among] all the teams, from upper management to the production line, that what we had been doing for years was not a solution anymore,” says the CFO. “We needed to start a new culture.” This was the Back in the Race initiative, which was built on three distinct pillars: an increased focus on cash management, the excising of loss-making divisions and a revision of pricing. For years, Peugeot was driven by engineering and technical performance. But, according to the CFO, there was no real culture of cash management. De Chatillon sought to address this in 2014. “We set up Back in the Race to save €1b (US$1.1b) in working capital requirements in three years,” he says. “We managed to achieve €1.2b (US$1.36b) in one year, because we had extremely precise targets for each division.” As part of the plan, the company targeted divisions that were losing money. “There is no [license] for any business in this company to be loss-making. Either you fix it, you sell it to someone who can fix it, or you shut it down.” With this new laser-targeted approach to savings, the company sold its motorcycle division to Indian company Mahindra, and its football team FC Sochaux to Chinese investors Ledus. The final piece of the puzzle was to change their pricing structure in line with those of their rivals. “We have cars that are as good as our competitors’,” says de Chatillon. “So we have to price them accordingly. You cannot survive in this industry if you are not effectively valuing your product. We increased our pricing power significantly across all three Capital Insights from EY Transaction Advisory Services Peugeot employs over 184,000 people worldwide. Around 75% of them are based in Europe and 25% in the rest of the world. 1929 Peugeot unveils its first mass-produced car — the 201. 1810 Peugeot is founded as a manufacturer of coffee mills and bicycles. Pre-1900 1890 First petrol car is manufactured by Peugeot. “There is no [license] for any business in this company to be loss-making. Either you fix it, you sell it to someone who can fix it, or you shut it down.” 1900 brands [Peugeot, Citroën, and DS] in all the regions and that, of course, goes directly to the bottom line.” And the Back in the Race initiative has paid off early. In February, the company announced that its auto division had hit its 2019–2023 target of 5% operating margin. Peugeot also reported free cash flows of €3.8b (US$4.3b) for 2015 and net cash of €4.6b (US$5.2b). The company can now focus on the future with renewed vigor. “We are looking at a new profitable growth plan, which will capitalize on the efforts of Back in the Race to build the business,” says de Chatillon. “This will be a standalone plan, but we are open to any opportunity that would create value for the shareholders.” A spin around the regions A major part of the future plan is to build on international growth in order to become less reliant on European sales, which accounted for around 60% of total sales in 2015. The company’s second-largest market is China, where sales were slightly down in 2015 (-0.9%) as a result of the country’s slowing growth. Although fierce price competition means the market is challenging, Peugeot’s partnership with Dongfeng has helped the company maintain a strong position in the country. “It’s quite a piece of luck for us to have two senior executives [from Dongfeng] on the board who are specialists in the Chinese car industry,” says de Chatillon. “They help us to find the right local suppliers with the right cost structure.” The company’s third-largest market is the Middle East and Africa, where it saw a 6.4% increase in sales for 2014—15. “We have a strong name and very good base in a number of countries in the region, and we are looking to develop
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