Disclaimer: This interview is for informational purposes only and should not be relied upon as a basis for investment decisions. In Practise is an independent publisher and all opinions expressed by guests are solely their own opinions and do not reflect the opinion of In Practise.

{audio:0:00:01}Rutab was a company purchased by Addtech shortly after you joined; can you briefly explain what Rutab looked like at that stage in 2009?

{audio:0:00:16} It was a small, profitable company with €5 million turnover and 8% to 9% EBIT margin. We focused on selling machine cable components, mostly cable glands, to electrical wholesalers in Sweden and directly to machine builders and were market leaders in the segment. We were the only ones focused on those products and had 23 employees.

{audio:0:00:50} Were these big mechanical machines?

{audio:0:00:54} Yes, robots and construction machines and equipment. ABB and Atlas Copco were large customers of ours but it was mostly through electrical wholesalers like Ahlsell, Sonepar, Elektroskandia and Rexel, all international wholesalers.

{audio:0:01:11} How were you different from your competitors?

{audio:0:01:16} We were the only ones who were focused. We started off by developing our own cable glands and we realized that electrical wholesalers had five suppliers where they only needed one. We set out to be a one stop shop in a focused niche, which worked very well. We were a competence center within cable glands and machine cable components, and gradually grew within the segment to adjacent products such as machine cables and protective conduits. We did that by acquiring companies.

{audio:0:02:04} Was that industry segment simply too small to attract competition?

{audio:0:02:11} Yes, but it is still not as big as machine cables for example, which is a huge market. We entered the market from basic accessories, whereas others started with machine cables which they produced themselves, then moved onto accessories, without becoming an expert in those accessories. We took a slightly different path to success from many of our competitors.

{audio:0:02:40} Did you have a monopoly on that manufacturing segment, selling mainly to distributors and wholesalers in the Nordics?

{audio:0:02:53} Why did Addtech acquire Rutab?

{audio:0:02:58} Addtech acquires companies who have strong market positions. They prefer to see both turnover and profitability stable over time. They do not focus on seeing future growth or demand you grow your business by 10% annually. They want to see stable secure cash flows in the future as well as strong management teams, and Rutab ticked those boxes. We had a structured auction process when Rutab was for sale, and there were 50 players interested in acquiring us. It was a long autumn before the company was finally sold.

{audio:0:03:45} You mentioned Addtech looked for stable turnover and profitability. What was the framework for choosing companies and which variables did they look at?

{audio:0:04:06} Addtech looked at companies in verticals which they knew something about. When I was a business unit manager at Addtech, I had my own verticals, machine cable components and professional lighting. All companies I looked at were within those fields. We were allowed to venture outside those fields, as long as it was logical. We preferred companies who shared suppliers in the same customer segments. When you bring many people together from different countries and they work in the same manner and with the same customers and suppliers, something magic happens and you end up learning a lot.

{audio:0:05:00} Would you prefer companies with similar suppliers and customers?

{audio:0:05:04} Yes, but it was extremely important they had at least five years of being profitable. We did not want to acquire companies which fell down and lost 20% of the profit in two years.

{audio:0:05:25} Would you look at the EBIT over working capital?

{audio:0:05:30} The EBIT margin was very important but we also looked at what we call EBIT over net working capital. That was our way to ensure the companies coming into Addtech provided strong cash flows to enable us to make other acquisitions. We often saw significant improvements in EBIT over net working capital post acquisition because we focused on that. It was even part of the bonus programs for the managing directors of the portfolio companies.

{audio:0:06:09} In terms of acquisition size, was there a minimum or maximum revenue?

{audio:0:06:14} No, but for standalone companies I wanted at least €3 million turnover because you want a managerial structure in the company which can manage itself. €10 to €15 million was a sweet spot where, in addition to a managing director, you have a strong CFO and sales director. The largest company was €60 million and Addtech only did large acquisitions once every three years.

{audio:0:06:55} How do you analyze the value-add piece of the potential acquisition and the pricing power you can get from them?

{audio:0:07:06} Many people asked me about the magic within a trading company like Addtech which had many successful acquisitions, but there is no easy answer. It is an industrialized process. The level of analysis we did was not very high. It was more about, do we know what the company does and what their history is? If it looked good then we would try to be the nice acquirers so that people really wanted to work with us. That was a strong focus from our side, showing we were nice people who knew your industry well, so you would have a board of directors who spoke the same language. We did the commercial due diligence ourselves which was not sophisticated. We only used legal advisors to help us with legal questions and due diligence.

{audio:0:08:07} Did you adjust pricing of the products post-acquisition?

{audio:0:08:18} No, but usually through the board of directors, we gave them hints on how they could use our key learnings from what we had done in the past. We had educational programs for both management and all employees, showing them how to improve net working capital. We educated them slowly without applying pressure, teaching them how to optimize their business. It was a slow process but it usually gave good results.

{audio:0:08:55} For the Rutab acquisition where there were 50 potential buyers, how did Addtech approach Rutab?

{audio:0:09:11} It was basically through management presentations and the management team was key because nobody wanted to acquire the company without us. We made a short list of three companies who made the best impression and knew what we were doing. Addtech was one of those and offered the highest price. Rutab was sold for six times EBIT, which was not that high but normal for companies like this.

{audio:0:09:50} Does the multiple change materially with size?

{audio:0:10:03} When the turnover is over €25 million, the multiples are six to eight times EBIT. Growth segments with proven growth of 15% to 20% over six years would have higher multiples. People are surprised when we acquire companies at 3.5 times EBIT, but 5.5x was the most common.

{audio:0:10:41} What impressed you about Addtech during that process?

{audio:0:10:49} The CEO of Addtech at the time, Johan Sjö, asked the right questions. He did not say that our business model would not work in future, whereas many private equity players questioned that and told us our commodity products would probably go down. We disagreed and realized there would be difficult board discussions over the following five years, but Addtech told us they had seen this type of business before. The most important question was asking what the management team wanted for the future, which is an efficient way of being on the same team.

{audio:0:11:39} Did the private equity guys and other companies not ask you that?

{audio:0:11:45} No, they mostly asked if I was willing to invest, to which I said yes, but it depends on the price you pay. If you pay too little I will not invest. I am capable of doing my own valuation of the company. I cannot tell you what my perceived value of the business is but that has to be a discussion during the process. They were definitely more focused on the financial side and getting buy-in from management, whereas that was not our primary concern. We wanted to be the right type of family and have the right structure to grow in.

{audio:0:12:17} What else did Addtech say that impressed you?

{audio:0:12:24} They said we could be self-sufficient and create our own strategy within Addtech. They also knew about selling products to electrical wholesalers, so spoke the same language. When Addtech acquired us, we were not allowed to do our own acquisitions, which surprised me. During the due diligence that was a negative, but that changed as Addtech grew and new people came in. They adapted their strategy to work more with add-on acquisitions, but I was not a suitable managing director for an Addtech company. I wanted to develop something which is why I took the step up and worked for the business unit within Addtech instead.

{audio:0:13:23} Addtech did not allow managers of operating companies to acquire businesses, it had to come from the business unit manager?

{audio:0:13:32} That was the case back then, and different parts of Addtech work differently. There is one common culture across the Addtech group, but each business area and unit have their own culture. In our business area, they had a focus on not doing acquisitions in the companies themselves; they do it at a central level. It was not common throughout Addtech, but today that has changed.

{audio:0:14:02} Are they more willing to allow managers to make their own acquisitions today?

{audio:0:14:07} Yes, that is something people say and you learn it in school; many acquisitions fail. That is not true. Research from INSEAD and IMD shows that most acquisitions turn out well. That is what we see in Addtech and also what I have seen in other instances as well.

{audio:0:14:37} Who were the owners of Rutab?

{audio:0:14:44} A private equity company owned 35% and the founder's son owned the rest.

{audio:0:14:54} How were the price negotiations with Addtech and other companies?

{audio:0:15:00} I was not part of that process since I had a business to run. Having 40 to 50 management presentations took some time so I tried to keep the management team away from those negotiations. We were not the owners and should not be part of it; involve us later.

{audio:0:15:23} Addtech approached the acquisition uniquely, asking what you wanted. Does that mean they can pay a different price than the more financially-driven firms?

{audio:0:15:43} Yes, depending who the seller is. Often the seller is still the managing director of the company and will stay on for five to 10 years, so he is interested in how you will work together. Whether he receives 5.5, 5.8 or six times EBIT, it does not matter much. In many cases we paid lower multiples because of who we were. Alcadon, my current employer, recently acquired a large profitable company with a very high growth rate at four times EBIT. We did that partly by shares and partly with a large earn out. It was well-structured for being part of a small group to grow together. Addtech usually buys 100% of a company, often using a two year earn out period. There is not much flexibility in the model used.

{audio:0:16:51} If you acquire 10 companies a year, you do not want to keep track of 10 different structures; you need a simple process. At Alcadon, I buy one company a year and increase our turnover by 30% each year, which is a totally different animal. We are able to individualize the deals to a much larger extent, whereas with Addtech it was more like an M&A machine.

{audio:0:17:20} How does the two year earn out work?

{audio:0:17:28} Today I use three years because I need them incentivized for as long as possible. Addtech felt that two years was enough. You never know what happens after two years and you also want the flexibility of changing the managing director if you need to. Over two years, we got to know the company well and were more secure and less dependent on the managing director.

{audio:0:17:56} The founder of the acquired company earned the same salary plus this earn out period where they could then take capital out of Addtech and effectively leave?

{audio:0:18:13} Yes, nine times out of 10 people, stay way past their earn out period because they enjoy working there. Most of them got quite wealthy after selling the company and were no longer incentivized by capital. They wanted something fun to do during the day. Addtech was a safe harbor to remain in.

{audio:0:18:44} Do the private equity companies compete for acquisitions with Alcadon and Addtech?

{audio:0:18:53} The competition has become much more fierce. Lifco, Lagercrantz and Indutrade are the typical competitors, but today there are more family offices acquiring companies with a turnover between €2 and €10 million. There are many players but the multiples do not change. It is not in anyone's interest to pay more than the usual multiples, which are similar across Europe. You rarely meet potential targets who have not been in contact with at least 10 potential acquirers, so you have to stand out.

{audio:0:19:46} How is there more demand and cheaper money but unchanged multiples?

{audio:0:19:56} There was one player in the market who paid slightly more, but they were not considered a very nice owner. I will not identify them but when they were in a process or discussed with a company, we knew they paid more, and it became an uphill struggle to negotiate with a company. Everyone else offered between four and 6.5 times EBIT, because that was the market price. Individually a company would be able to acquire at seven and would acquire more companies. There are so many companies out there for sale so you will find enough companies to acquire.

{audio:0:20:40} Can Addtech keep acquiring 10 to 15 companies annually?

{audio:0:20:51} There is room for all the acquirers, as there is also the geographical perspective. Today many companies are active in the Nordics but when they learn it is similar in the UK, the Baltics, Germany and Poland, they also acquire companies there. Once you enter new geographical markets, they have 400 more potential acquisitions.

{audio:0:21:17} Is the multiple similar in the UK?

{audio:0:21:20} Yes, I acquired several companies in the UK at the same multiples, but the financial motives of UK sellers are stronger. They care more about how much they are paid than where the company ends up.

{audio:0:21:42} Is there a ceiling to the multiple where below €5 million will never receive 10 times EBIT, even when there are many buyers?

{audio:0:22:09} Yes, nobody will bid more than seven or eight times EBIT. That is a common understanding for everyone in the market. Sometimes there are new entrants in the market who do not understand multiples and can pay 12 times earning and it will still be a good deal. When I was in private equity, that is what we did. If our valuation showed 15 times earnings, we said that everything below 11 would be great.

{audio:0:22:43} Why is there no pressure on pricing?

{audio:0:22:52} I do not have an easy answer but logic tells you that people would pay more, until the marginal cost equals what you get for the price. But since the market pricing is what it is, there should be quite a significant discount when you buy a private company dependent on one person or two suppliers or five or six large customers. Everyone knows that you cannot do a discounted cash flow forecast earnings, growing in eternity because things will happen along the journey. For a small company there should definitely be 30% to 50% discount. That is how you end up with five times earnings multiples.

{audio:0:23:39} Do these companies typically have a few suppliers and five large customers?

{audio:0:23:50} Yes but private equity companies usually look at larger companies. The investors who used to look at smaller companies are mostly venture capital firms looking for high growth tech companies with the world as a playing field.

{audio:0:24:14} The discount comes from the concentration of suppliers and customers but also the key man risk with the founder?

{audio:0:24:27} The risk level is always higher when you acquire small companies. That is why I prefer it if they have a turnover of at least €10 million but preferably above €15 million. Then you have a stronger management team, without the same dependence.

{audio:0:24:43} How did the private equity funds compete?

{audio:0:24:49} They mostly acquire larger companies. I have never met much competition from private equity funds when it comes to companies with a turnover of less than €25 million. If it is a small company with extremely high profitability, you might encounter some private equity funds who believe they can scale up by adding acquisitions. Many of those small private equity firms who invest in smaller companies turn their back and look at the tech companies instead.

{audio:0:25:24} Are they simply too small and boring for the VCs?

{audio:0:25:28} Yes, they want to see top line growth of 25% a year, and with the companies I acquired you will not see that. You should be very happy if they grow 5% a year. Price increases at 2% and a 3% growth on top of that.

{audio:0:25:45} A typical company they acquire is a couple of percent pricing growth plus GDP growth and 10% EBIT margins if you are lucky?

{audio:0:25:57} Yes, basically. Today at Alcadon Group, I am looking at high growth segments where we are, so of course the expected growth rates are higher, but there is a discount for smaller companies leaving the multiples unchanged.

{audio:0:26:35} When you were the CEO of Rutab which merged into Addtech, what did you notice was unique about Addtech?

{audio:0:26:43} Addtech's model of following companies over time was unique. They follow many KPIs but also looked at how much stock value we had for each supplier and what the margins were for each product. The level of detail was very high which also kept the management on their toes. It made us have to think before each board meeting. They would see that the EBIT over net working capital did not look good for a supplier and would question you about that. For a private equity owner, it’s more about the fact that you didn’t grow your EBIT and what you are going to do about it. It's about applying pressure and ensuring the right CEO. Addtech offers greater assistance while also looking at the details much more.

{audio:0:27:46} Do they know distribution businesses better than private equity firms?

{audio:0:27:50} Yes, definitely, much more detailed. A key learning is having an efficient board. Board members should ask detailed questions without the need for many reports. That way they get to know the business and are a better sounding board for the management team.

{audio:0:28:17} Did Rutab still feel like a stand-alone business, even when part of Addtech?

{audio:0:28:22} We definitely did and there was never talk about merging us into something else. We had our own income statement and were responsible for net working capital so we felt part of Addtech but still standalone. We were encouraged to cooperate with other companies. Sometimes that works very well but mostly it does not. When I was a business unit director, I encouraged this by helping bring customers from one company to another company. As a chairman, you have to push for that to happen.

{audio:0:29:09} Did Rutab have any synergies with other Addtech energy companies?

{audio:0:29:21} It was very limited; they basically wanted our competence in how we worked with wholesalers because they had several companies who were not performing well. When we came into the group, we could tell them that in two years they would not have any sales to the wholesaler segments. We basically gave Addtech a heads up because we know the customers. They never choose to do much about it, but things got better over time.

{audio:0:29:56} So more of a knowledge sharing synergy?

{audio:0:29:59} Yes, we shared knowledge, customer experiences and relationships.

{audio:0:30:05} Rutab still had the same back-end admin functions and did not integrate?

{audio:0:30:15} Nothing was integrated. When a company performed badly you tried to improve it, but you could also merge it into a well-functioning company sharing administrative resources. That happened several times.

{audio:0:30:33} Did management have to go through the Addtech business school?

{audio:0:30:39} We encouraged people to go through that and we substantially modernized it several years after I came into Addtech. I helped create the course for sales directors and managers where we educated them in sales management. That was fun and when companies went through that education, something happened. They performed better than the companies who had not, so the Addtech business school was definitely a differentiator. It was a way for companies to meet, share the same culture and familiarize themselves with Addtech. We always had at least two senior Addtech members together with a class of 25 people. We all ate lunch and dinner together, participated in the sessions and got to know each other really well.

{audio:0:31:36} Were the sessions run by the CEO of Addtech or senior managers?

{audio:0:31:42} Yes, in addition to an external firm which we used. After two years we changed that firm and designed a new syllabus to develop and modernize it. During sessions I normally sat among the audience. Sometimes I stood up and gave some examples of what works and what does not. The lecturer taught the supporting theory which made for very good cooperation.

{audio:0:32:14} You mentioned you were part of forming the course for the sales managers; what were the key principles you looked to get across in that course?

{audio:0:32:23} It was about how to coach a sales force of five to 15 people. How do you get the most out of them? How do you structure a sales force? Which individuals are required in a sales force like this and how do you work with each of them? We taught basic principles of negotiation. How to negotiate when acquiring a company or a small or large customer. We gave them examples and had breakout sessions with negotiation and sales practice training. It was very practical.

{audio:0:33:06} Reading the literature they produce on this, it defines the culture and the expectation of Addtech employees; the business school training seems to be at the heart of driving the value?

{audio:0:33:28} Addtech's strategy is not that important but the culture is key to everything. Getting people together and teaching them the culture was the most important. How we approach a deal is important to us and means a lot. Sometimes it is difficult to define a culture, it simply exists. Over time I have learned how to tell a weak culture from a strong one.

{audio:0:34:01} What makes an Addtech different from an Indutrade or Lagercrantz?

{audio:0:34:11} Compared to the companies you mentioned and others in the industry, one is very focused on business development and hiring consultants and industrial people who add expertise. One focuses on multiple arbitrage by acquiring companies but not developing them at all. Addtech would place industrialists as chairman of the boards of every company. I was the chairman of 14 companies but I knew the business well and spoke the same language. If a company with an electronics factory were developing small components, I could discuss that with them; what communication language are your components going to use? I knew what they were discussing in the management team which meant a lot. That is how Addtech differed from other companies.

{audio:0:35:23} You became CEO of the energy products business unit. I recently read that the energy segment had revenue of 2.4 billion. Were energy products part of that?

{audio:0:35:42} Yes, it was part of that. We had a turnover of €120 million when I quit. In five years, we increased it from €45 to €220 million while substantially growing the profitability. We did that by acquiring companies which were more profitable. Competitors of Addtech also did that; they acquired more profitable companies and over time their EBIT margin grew. At Addtech we looked more at whether the EBIT margin was significant and if we were paying the right price for a good company. Those were the basic questions we asked ourselves.

{audio:0:36:24} Were these trading products of the reported energy unit?

{audio:0:36:32} Most of Addtech was about distribution, representing major manufacturers in local markets but we also had our own brands and some manufacturing. For example, I had a large manufacturing unit in Norway. I tried to use my other companies around Europe as distributors of that manufacturer. You try to find cooperation between companies.

{audio:0:36:59} They have three segments: own products, trading products and customized solutions. Was your segment more in the trading products distribution side, plus your own label?

Addtech: M&A Process and Strategy

Former CEO Energy Products at Addtech

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Sonny Mirborn

Former CEO Energy Products at Addtech

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Addtech: M&A Process and Strategy (July 8, 2021)

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