Bergman & Beving: The Original Serial Acquirer

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.

What was your role and responsibilities at Lagercrantz?

Lagercrantz is a Swedish serial acquirer with a €2 billion market cap today, but was a spin-off from Bergman & Beving in 2001. I started at Lagercrantz in 2007 as deputy CEO of the group, where I spent 60% of my time on M&A. During my 14 years there, I was involved in closing 51 acquisitions. 30% of my time was spent developing group companies through board work. I was also involved in the organic development of the portfolio. 10% of my time was on group work like investor relations. It was an exciting journey as during my time there, the stock price increased 2,300%, which translates to an increase of 25% per year.

What were the main segments and products sold when you joined?

In 2007, the group had 5% profit margin with almost no product companies. It consisted of component distribution businesses within electronics and telecoms. Those companies were typically niches within their areas and acquisitions were aimed to continue within those niches. Double digit profit margins were never heard of.

Why was it difficult to get double digit profit margins?

Competition was intense and margins were, typically, very low.

Is that because the products are more commoditized with strong suppliers who have big market share, making it hard to get pricing?

Distributors were squeezed between big international global suppliers and big telecom customers, such as Ericsson and Nokia.

What is the difference between a product company and pure distribution?

A product company owns the IP but doesn't need to produce it, whereas a distribution company buys someone else's products to sell them in their markets.

Did Lagercrantz simply resell electronics components?

Yes, including value add within those sectors by adding some software.

Was there value-added stuff?

The value add is why it was still 5%.

Otherwise it would be zero?

Yes, or close to zero.

Is it only product companies who own the IP that can get 10% margins?

No, niche companies who don't buy products from big suppliers and who have more fragmented customers can have profit margins above 10%, but that's not typical in electronics and telecoms.

How did Lagercrantz evolve from 5% 20 years ago to 11% margins today ?

For Lagercrantz to deliver double digit profit margins, their new growth strategy was based on acquisition of product instead of distribution companies. We started to allocate most of our capital into acquiring niche B2B product companies with margins well above 10% and with addressing an underlying growing niche. When we set that strategy in motion, we were successful with our first few acquisitions. The fear of investing in new niches eroded internally after initial resistance from those in the group who grew up in electronic and telecom distribution businesses. Most of the profit improvement was related to acquisitions made within new niches. Lagercrantz still own companies doing distribution with electronic and telecom distribution business, but they still have operating margins below 10%.

Why did they not spin them off or sell them?

You need to ask Lagercrantz that.

What is the biggest risk with that strategy?

Internal resistance of working with new products and the higher risk of buying companies in industries that you don't already have a presence in. The first few successful acquisitions built comfort within the group that this was doable. Lagercrantz and Bergman & Beving are not operationally involved in companies, so part of the DD was to ensure good management was in place to add value as a decentralized owner.

What major lessons from Lagercrantz could you apply to Bergman & Beving?

They both employ a decentralized governance model, so you need the right people in teams across the group, otherwise you will never succeed.

Are you referring to the business unit managers?

You need to address it on all levels; it's not good enough only on one.

Do individual companies have their own IT systems, finance teams and HR?

The guiding principle is no central functional departments in the group; each company should be self-sufficient. Some companies share HR resources or ERP platforms but that is driven by them, not by us as an owner dictating anything to them. The business logic for us is that we never want a company MD to blame missing their targets because we forced them to do something. The management team is 100% accountable for developing their company.

How would you compare the journey of Lagercrantz and Bergman & Beving?

When I started, the opportunity to get 10 plus profit margin with their company portfolio would have been challenging, if not impossible. Lagercrantz was very dependent on acquisitions, whereas the companies Bergman & Beving own today can easily reach 10% profit margins. The quality of businesses we own today is higher than Lagercrantz in 2007. The opportunities are greater but there are no quick fixes and it requires diligent persistent work across the group. I expect us to improve profit by 15% to 20% per year and profit margins by 0.5% to 1.5% per year in the coming years. We had that traction for the last two years and Lagercrantz increased profit margins by an average of 0.8% since 2017. Today, B&B has greater potential than Lagercrantz did.

Why do Bergman & Beving have a higher quality portfolio than Lagercrantz?

Bergman & Beving have a higher percentage of own product companies and are working in more favorable industries than telecoms and electronic.

Why would you prefer construction and manufacturing over those?

The customers tend to be smaller and Bergman & Beving products find niches within those segments instead of addressing the big markets. Niches have less competition and customers who appreciate high quality instead cheap products.

Bergman & Beving have 44% gross margins whereas Lagercrantz started at 25% and are still only at 38%, but have 8% higher EBIT margins, why is that?

The two wholesale companies we own have a turnover of €200 million.

Nearly half of total revenue.

Yes, it is 40% of the revenue.

When you say wholesale, do you mean pure reselling distribution?

Yes, they basically distribute to resellers.

Without any value-add?

Yes, gross margins are high because those wholesaling companies sell our product company's products. We get healthy margins in both businesses but we need to bear the cost of two business models, so the cost is higher to generate that margin.

Is that the SG&A cost or the labor overheads?

The cost of sales percent is much higher since we need to carry two business models to generate that gross profit in some product areas.

How can you improve margins given that structure?

We improved our gross profit margin during the last quarters by focusing on areas where we add value to our customers and where we have better margins. We have started to phase out high volume, low margin businesses who are not as niche.

So, you effectively, have two large distribution businesses?

SKYDDA works within people protection equipment, then we have Luna.

These two businesses allow you to sell your proprietary brands, so you can reduce some of the lower value-add revenue you generate?

Our product companies also have other market channels.

What is the advantage of owning that original wholesale business? Could you not have 100% IP owned proprietary goods and sell it through the distribution business separately?

You can do a lot of things but this was due to their heritage, and going forward, I can promise you we will no longer acquire wholesale businesses.

Does Lagercrantz or Indutrade also have big internal distribution?

I know Lagercrantz don't have that, nor does Indutrade.

What advantages does owning big internal wholesalers offer?

They are a primary channel in the Nordics for our product companies.

This could suggest the long-run EBIT margin of Bergman & Beving could be higher than others given their 68% high proprietary mix today and it includes a lower margin wholesale business.

We should double profits and reach 500 million EBIT by fiscal year 2025/26, fiscal year 2020/21 being the starting point. Expansion has always been self-financed since 1906. The cash flow our companies generate allow us to continue to invest in companies we own, in addition to acquiring new companies into the group.

Does the EBITA over working cap need to be 45% to be self-financing?

It depends how much you invest in the companies you own and the type of dividend, but our long-term target is 45% in order to be self-financed.

But today your EBITA / WC is lower than 45% – is this because of the wholesale businesses?

That could be part of it but we don't see an improvement in that ratio with the disturbance in logistics and product flows. We have built extensive safety stock over the past 18 months, but that will decrease over time and improve that ratio.

Can it get to 45% or 50% like the others?

Yes it can, and that is also our target for 2025/26.

So reduce inventory, improve payables and add higher margin revenue?

Yes.

Bergman & Beving pioneered the serial acquisition model; why have they lagged behind other players over the last 10 to 15 years?

Dagens industri, the leading Swedish business newspaper, had a two-page article about Bergman & Beving last autumn, and they labelled us the ancestor mother company of stock market rockets. We are the mother to four other listed serial acquirers on the Swedish stock exchange – Addtech, AddLife, Momentum Group and Lagercrantz. Addtech and Lagercrantz were spun off in 2001 when Bergman & Beving were called B&B Tools and, for a decade, the aim was to build one company. That was against the DNA of Bergman & Beving who had a high degree of decentralization. That was a period of centralization with an aim to integrate all product, wholesale and reseller companies in the group. B&B Tools acquired many resellers hoping to get excellent margins and high efficiency through those integrations, but that never materialized. In 2017, the owners spun off the reseller part which is now called the Alligo Group, also a Swedish listed company. We did the necessary clean up since 2020 and now have an expansion plan, having grown profits over the last 10 quarters. The main reason we are behind peers and other original Bergman & Beving companies is we had the ambition to become centralized, but that never created any value.

Those spun out reseller businesses were similar to the two businesses you own today that account for 40% of your revenue, but you decided to keep them?

No, the reseller business is where construction workers pick up the things they need for the day. Alternatively, they go to end customers and decide what products a specific industry needs.

You mean a reseller business as in a retail business?

The wholesale is then serving the resellers.

So B&B Tools was trying to integrate wholesale and retail?

Yes, and product.

Which goes against their history; how did that happen?

That was before my time so I don't have in-depth knowledge about that.

How did you approach returning the organization to its roots?

The process was ongoing since 2017, but it accelerated after I joined, and today we have a similar governance model and philosophy to Lagercrantz and Addtech.

How would you define a niche product company?

We only look at well-managed companies with healthy profit margins we would like to increase over time, well above 10%. A niche could be defined as a specific country, where you build a leading position in Denmark or Norway and create entry barriers for competitors. Polartherm, the last company we bought who builds mobile heater units, sell to the US Army who are looking for high quality heating products. That is a typical global niche few companies will invest in as the market is too small. If you have a strong position in a niche with underlying growth, company and owner have I nice development over time.

What did you specifically like about Polartherm?

Polartherm had very good margins. We look at capital efficiency with a profit over working capital above 45%. That is defined as, we see a potential to grow that business without requiring much working capital. They address a niche and are in the top three globally, so that was a very good fit with our acquisition criteria.

Why is EBITDA over working capital a good metric to use for a product company and a distributor?

We use the same measurement for a distribution or product company. Since we don't have big capex in our companies, this is a simple estimate of return on capital employed, but it's also a measurement all people can relate to. Working capital in our world is inventory, receivables and payables, which people can do something about, so we can put implement targets and activities to improve that ratio across the companies.

It only makes sense if the company doesn't have large tangible assets and they're not manufacturing their own products; obviously, you have to include that.

We love product companies who own the IP but outsource the production. If you look at our product companies, very few own their own production facilities.

The asset base looks similar to a distributor but with a higher margin. What transaction multiples would you target in a Polartherm and elsewhere today?

We target EBITA multiples between four and eight, on average.

Six times EBITA, and do you have a target for revenue or company size?

We look at earnings or profits instead of revenue. We prefer companies that earn between €1 and €2 million with a profit margin well above 10%, which implies a turnover of €5 to €20 million. They are small but leading companies addressing niches. We are not interested in €100 million turnover companies who are fifth in the market, even if it is great with many opportunities. Niches, typically, have higher profit margins. 10% to 20% EBITDA margins is more common but some range between 30% and 40%.

How competitive was the bidding process for Polartherm?

They were not top of the range, nor was competition that fierce.

Was it an auction process or a private transaction?

The last two acquisitions were both in Finland – Polartherm and Retco – and Retco was outside an auction process with little competition because the markets are too small for private equity. A company with €1 to €2 million earnings is too expensive for a typical private family office, so that is the sweet spot valuation range.

Who are your competitors, typically?

Industrial players who think a niche adds to their current businesses.

Such as your former Bergman & Beving companies?

Yes, but we also find local Swedish and international peers.

Lagercrantz, Indutrade and Bergman & Beving have different focuses such as construction, manufacturing or medical technology; how does that effect acquisitions?

You need to address markets with less consolidated customer bases. Many niche companies have healthy profit margins, independent on the type of industry. It's about finding companies who have a strong position within an industry niche.

43% of Indutrade sales are from proprietary products versus over 60% for B&B but they have higher margins?

They found distribution companies that address niches without large multinational suppliers and international customers. They found niches whose customers are not that price sensitive and whose suppliers don't hurt their margins.

So Indutrade is a purer value-added distributor than Lagercrantz?

Yes.

If I'm a seller looking to retire after running a business for 25 years, how do Bergman & Beving structure earn outs or incentivize me to pass over my company?

Our purpose is to ensure a controlled succession over time. If owners want to phase out in the near term, we construct an earn out between one to three years, which is based on the profit during that period, which ensures aligned interests. Polartherm had four owners. Two wanted to retire and two remained in the company, so the two remaining kept Polartherm shares and we created put/call options for both parties, the first window occurring four years later. That ensures people have an operational role and are committed to stay for several years and solve any potential transition issues.

When have you, typically, made acquisition mistakes?

Having acquired 60 companies during my lifetime, I have seen patterns when acquisitions were less successful. A common theme is dependency on a single customer or supplier. During the DD process, you can get an impression there is no possibility for a customer to phase you out, then something happens along the way and they change their products or sell it to another company. When you are dependent on a single customer, it's very difficult to quickly recover from big revenue drops.

What percentage of revenue from a customer or supplier would worry you?

The top one should be less than 25%.

Do you look at the top five or 10?

The top five can account for 80%, as long as none of them are too big.

Are there any other patterns you've seen from your mistakes?

One pattern is misjudging customer dynamics. I'm surprised that less than one in 10 acquisitions went the wrong direction. I would then say, that half had earnings higher than expected and 20% to 30% were lower than expected.

Six acquisitions went bad due to customer concentration, any other reasons that make acquisitions go wrong?

If a large proportion of your sales comes from one customer, that customer could stop buying for different reasons in all cases.

Was the only common pattern the customer concentration?

Yes, and it's easier and quicker to fix not having the right team in place compared to losing a customer who represents 70% of your business.

Do you now have a hard rule of no customer can be above 25%?

Yes, we have.

Does anything else worry you when you buy a company?

Succession planning is always a challenge because you need to ensure you insert a good management team to replace the team who leave.

How do you do that?

It's important to leverage the people phasing out who know what competences and skills are necessary and they typically have a network in the industry.

You mean promoting someone who is second or third in line at the company?

Yes.

When you enter a niche engineering sub segment of a market, how do you get comfortable with the market structure and value-add when buying a company?

We look at the numbers and do a commercial DD, including interviews with customers and industry experts to get a better understanding of the industry. We sometimes use external resources to help us make a focused effort around the commercial issues.

How do you think about obsolescence risk?

One of our acquisition criteria is a long product life cycle. Companies with short product life cycles need more R&D and you never know what the market or your competitors will look like three years later. The risk of losing your leading position is significantly higher than a company with a product life cycle of 10 to 15 years.

How do you think about R&D when the life cycle is so long?

They are not as R&D intensive so that's a positive. There are no new chips or technology in the steel or tools area, for example.

Serial acquirers who sell expensive high-end systems instead of consumables are on long product life cycles, so if you buy a company with a 10-year product life cycle, how do you ensure you have internal organic growth to not miss the next industry iteration?

One of our biggest product companies is called ESSVE, who are the market leader in fastening elements in the Nordics. Their product development is driven by their customers. They work for example with the prefab segment who build houses on the factory floor, and their engineers optimize the work process and minimize the material used. ESSVE is developing new products but it's one technician talking to their engineers. They have an idea and create and test a prototype, it's not a $1 million exercise.

How much do you spend on R&D as a percentage of revenue?

Less than 5%, and the product life cycle is 10 years as nothing changes.

What percentage of group revenue is opex versus capex for the customer?

95% is consumables, which our customers need for their operations.

Even in the construction space or manufacturing?

Fastening elements have no investment. We own FireSeal who do fire protection, which is also not an investment because you need to isolate the walls in a ship. We don't sell investment products related to customer capex. That is beneficial in the current uncertain environment because that's the first thing customers cut down.

40% of revenues are from construction; how correlated are you to home building construction demand?

We are limited because we sell consumables. That is dependent on the activity level within the construction industry, but our workplace safety KPIs in the construction sector correlate to the number of employees working in the sector, and they all use fastening elements.

If the volume declines, surely the number of employees will also decline?

The Nordics saw a big decline in new buildings investments, but that didn't affect us in a big way because the number of people working in the construction sector is the same. There remains a scarcity of construction workers in the Nordics.

The number of employees matter more than the number of houses?

If you stop investing in building houses today, less people will be working in that sector in two years’ time.

The other thing that interested me was that labor costs are so high in the Nordics so it's difficult to cut costs, so companies look for products to help improve productivity.

As a general concept across the group, we encourage our companies to develop products that improve customer efficiency and safety. The demand for workplace safety is increasing in the Nordics and the labor cost is high, so if fastening elements allow them to work 20% faster, the product cost matters less.

How do you look at the organic growth of your companies?

We talk about organic profit growth instead of top line growth.

Why is that?

You pay your bills with cash flow, not revenue or profit. The group is now going through the process of phasing out low margin, high volume business, to ensure we have profit growth over time.

Do you mean cutting suppliers who don't give you any margin?

Yes, mainly within the wholesale business where our top line won't grow.

You mentioned you want to double EBIT to 500 million SEK; how do you expect revenue to evolve during those five years?

I haven't done that calculation. We work in a very decentralized way which translates into all our companies doing an annual business plan. That will include figures for profit over working capital development and will also define key strategic initiatives for the business, which the board discussed and agrees on. We also jointly define long-term targets based on a given business model and market conditions. The long-term target for the group is above 500 million EBIT by 2025/26, and not all of them will reach that but there is great potential in the companies we own today.

Do the subsidiaries send monthly or quarterly reports?

Monthly.

What numbers do you ask them to provide?

Revenue, gross margin, cost and any amortization from acquisitions. That gives us an EBIT which is how we measure them on the P&L, because the financial element is managed on the group level. We also look at working capital elements and cash flow on the balance sheet on a monthly basis.

How are they incentivized?

MDs are incentivized by the profit delivered related to the target we set, together with the profit over working capital ratio.

Is your stock option plan also based on EBITA growth?

We have stock options shared with the management team and the number of options is related to your seniority. In Sweden you have to purchase that option and the price is linked to stock performance

I've seen you own 84,000 options from last year, is that right?

That could be correct, and then I already own 330,000 shares.

Did you purchase those yourself or did the company issue them to you?

I purchased them myself so I have skin in the game.

When you're buying a company you have an EBITA over working capital, do you calculate a DCF for 10 years, assume revenue margins and discount that?

We don't buy to sell because we are a long term owner. When we acquire a company, we have a long-term perspective. We have a credit facility on the group level and we don't place any loans on the company we buy. Our acquisition calculation on return is a simplified DCF calculation.

A simple five year DCF?

Yes, it's less about the terminal value at the end. We assume an earning capacity of a company over a business cycle that can give us a healthy return. If there isn't a substantial capex, we do an even more simple DCF calculation.

You mentioned you have a credit facility; how do you typically finance acquisitions?

We currently have facilities which allow us to acquire for €80 million.

So you not use any cash to finance the acquisitions?

We pay the company cash but use our credit facility to finance that.

You don't use any equity or cash necessarily?

No.

When calculating this DCF, you get comfortable with the durability of the earning power, assume an organic growth rate and revenue base case, look at the five and 10 year earnings, calculate X return, low risk and use debt financing to pay for it?

Yes, and we don't base our return on high profit growth in future. We establish an earning capacity over a business cycle we feel comfortable with. If there is an upside in the earnings and it's difficult to sign a deal based on our conservative assumptions, we offer the seller an earn out. We argue that we pay an initial upfront cash threshold, and take on the risk you will at least deliver to that level, and if you deliver more, the additional profit is the basis for the earn out, which you get part of as an upside.

What base case target return do you aim for?

It should be paid off within four to five years.

So you aim for a 20% cash return roughly?

Yes.

How many niche targets are in your funnel in the Nordics?

You will be surprised.

Every serial acquirer says they get more each year.

I don't have an exact number but it's definitely over 100.

Is that in your current funnel in the Nordics only?

Some of them are outside, but the majority are in the Nordics. I'm talking about establishing ourselves in new niches, because add-ons are, typically, international.

Add-ons are obviously much smaller?

Yes.

How many companies can you reasonably acquire per year?

We aspire to acquire four to six, but would like to increase that to eight.

What are the challenges in increasing the number of acquisitions per year?

Since I started, we put more effort around acquisitions, but it takes time to build and work through the pipeline. You can have a first contact two years ago when it's not for sale, then the situation can change two to four years later and owners are suddenly interested in discussing a sale. It's about drinking coffee together and establishing a relationship so you can be the preferred buyer when the moment arises.

Do you do all the M&A personally or do you delegate downwards?

Division heads spend 70% of their time on companies in their divisions where they act as a chairman, and 30% on acquisitions. Those are the key vehicles for identifying new prospects. An M&A responsible person at the group level gets all the flow from the M&A community and chooses the most appropriate person to take on an acquisition opportunity. Today, I spend 10% to 20% of my time on acquisitions.

Halma have a limit of 15 to 20 acquisitions per year, Lagercrantz do seven and Indutrade are aiming for 20 annually. What is the challenge for you to get to 10 per year in the coming years?

We are currently broadening our scope in terms of the type of areas and industries we are looking into, so we have some ground work to do. I feel confident that, when we get this going, we can increase the path, but we have already stepped up. Polartherm and Retco were investments into new niches, slightly bigger companies with healthy profit margins, compared to previous acquisitions within the group.

What makes you most excited about where Bergman & Beving is today?

There are opportunities to improve profitability and cash flow in all our divisions with our current portfolio. We have started this acquisition path and will accelerate over time. The starting point is stronger and better than when I started at Lagercrantz in 2007.

You mentioned the gross margin is high for Bergman & Beving but the EBIT margin is low relative to others, which is mainly due to cost savings. If you cut out some of the bad business, are there other costs you can cut out? SG&A cost seems very high at Bergman since you have two business models, but how else can you reduce costs?

You can always improve the cost structure marginally without any big cuts. Bigger changes could happen if we make structural changes in the group.

Could you sell one of the businesses?

The DNA of Bergman & Beving is to buy to keep; we are a long-term owner. To create shareholder value, we need to match the multiples we are valuated against.

Could you get 10 times earnings for those wholesale businesses, which would create a huge amount of shareholder value?

The higher the valuation, the easier the decision would be.

Is there a challenge, internally, because the culture is not to sell, or could you spin it out as a separate public company?

There are different options if you go that way, but it's not part of our DNA.

What do investors typically misunderstand about Bergman & Beving today?

Near term, they prolong the declining investment in the construction sector on Bergman & Beving, because they think we are too dependent on that sector and don't realize where we play in that sector. Many investors don't know about our 100-year history and the period when we were BB Tools and centralized everything, then spun off the retail business to what is now Alligo. If you don't know that history, you could be disappointed by the development of the group and not understand why we have seen a positive development over the past 10 quarters. The market regularly questions me on why we don't have organic top line growth or why it is flat. They need to realize we are not focusing on top line growth. It's about profit growth, and part of that is to phase out low margin, high volume products within wholesale business areas.

It's hard to grow that top line if you lose even 1%?

We don't want to grow that top line.

Are you worried about the top line of 60% of your proprietary businesses?

I want to grow companies whose profit over working capital is above 45%. Our target is to double their profit over three years, which requires top line growth.

Is there any reason Bergman & Beving can't get to Lagercrantz or higher EBIT margins over the next 10 years?

No.

Are the protective safety equipment products in your portfolio materially different than what Lagercrantz had when they started? You do sell some basic proprietary tools such as hammers?

The basic tools are private label own brands within the wholesaling business, they are not a real product company with product lines.

Do you not count that?

No.

Is that part of the wholesale business?

Yes, we define product companies as those who are competitive without the wholesaler, but as a wholesaler, it makes sense to have your own brands if you have a big customer base.

Do you not include tools in your proprietary mix of 68%?

Not private label own brands.

That obviously helps the margin of the wholesale business?

Yes, but that's a small part of our business.

What keeps you excited every day to get up and find good companies?

It's exciting to get everyone to realize the opportunities and get the whole organization moving forward. We have done great over the last quarters and I see huge potential. The possibility of getting more traction gives me a lot of energy. I enjoy the work and the team we have here and feel very confident.

Do you see yourself doing this for 20 or 30 years or is this more short term?

I’m 56 years old, so I have a 10-year horizon, but let’s see what happens after that.