Last week, Bloomberg News reported that auto supplier American Axle had hired bankers and was exploring a potential sale, mostly likely to a private equity firm that would pull off a leveraged buyout.
American Axle issued a statement a few days later to say that while it isn’t engaged in a process to sell, the company regularly considers “strategic opportunities” that would be in the best interest of shareholders.
We may be in the midst of a trend, with a series of LBOs and M&A deals involving suppliers that are highly reliant on gasoline-powered vehicles. Already this year, we’ve seen muffler maker Tenneco agree to be taken private by Apollo. The same week in February, diesel-engine manufacturer Cummins reached a deal to acquire Meritor, the main selling point of which was electric-drive technology for commercial trucks.
Any company whose business is dependent on internal combustion engines has a few options: sell out to a PE firm or a competitor that’s better-positioned for the electric-vehicle age, or develop or acquire technology that makes its business more relevant as the world pivots to battery-powered transport.
Electric vehicle sales more than doubled to 6.6 million last year, approaching 9% of the global auto market. If a company in the industry isn’t big in EVs, its business is bound to slowly erode, and its stock price will follow suit.
Private equity companies are well-versed in managing these sorts of businesses. They come in, wring out costs, perhaps roll up a company with others in the same field and run out the clock on the operation with an emphasis on cash flow. It could be a while before these businesses go fully bust, because consumers will keep buying and servicing combustion vehicles for years to come. They’ll just buy a smaller portion every year.
Apollo’s $1.6 billion deal for Tenneco is a classic private equity takeout. Tenneco makes aftermarket parts and has two major units producing powertrain and emissions components. More than 80% of its revenue comes from those two business lines.
American Axle is similarly positioned. While the company has said EV parts and systems are 35% of its order backlog, Credit Suisse analyst Dan Levy wrote last week that a full transition to electric vehicles is still in question and could pressure margins. If he’s right, the Detroit-based supplier may have a rough time remaining on the public market. The $357 million in free cash flow generated last year also would fit nicely with a private equity buyer. Levy sees this figure rising to around $400 million in 2023.
Allison Transmission could be another candidate. The supplier to medium- and heavy-duty trucks recently announced a partnership with China’s Jing-Jin Electric to work together on the electric motors and inverters needed for EVs. But that agreement isn’t yet a year old, and the company remains heavily reliant on internal combustion. Like American Axle, Allison has healthy cash flow.
There are also some smaller deals that could happen, with large suppliers that do have growing businesses catering to EVs either hiving off internal-combustion assets or spare-parts businesses. BorgWarner, for example, has an expanding e-propulsion operation as well as an old-line aftermarket parts business that generated just $853 million of its $14.8 billion revenue last year.
For the time being, the capital markets have cooled dealmaking. With interest rates rising, the debt issued for an LBO may end up trading at a discount by the time a transaction closes. But once interest rates stabilize, watch out. We could see the next phase of upheaval from the electric revolution.
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