M&A in the labels and packaging industry: What you need to know now

Over the last couple of decades, labels and packaging have been a boon for M&A. Indeed, our industry has been part of some of the world’s most significant strategic and private equity transactions.

We’ve had all the elements for M&A success, most notably:

• High‐profit operation
• Near‐ and long‐term industry growth
• Double‐digit market segment growth
• Fragmented industry with potential to consolidate
• Opportunities in various categories / segments to gain advantage or dominate
• Low capital commitment
• Ability to find numerous financing sources for deals

While the majority of these elements remain, the last — and most important one in fueling activity — is falling short. Economic changes and uncertainty have driven rising economic skepticism. Thus, our current market faces hurdles in finding, funding, valuing and completing M&A deals. And this is quickly crushing many would‐be opportunities for our industry’s entrepreneurs.

Let’s look at today’s most notable issues:

Higher cost of capital — Over the last 10 years, global business has enjoyed some of the lowest lending rates for everything from capital equipment purchases through acquisitions. With interest rates escalating, deals are a lot more expensive than they were in previous years. While we are perhaps nearing an end to a lengthy cycle of rate increases, the cost of capital is now higher than it’s been at any other time in the last five years.

For investors looking to make a deal — or entrepreneurs considering an addition — we’ve reached a point where borrowing costs may impede (or even outweigh) the upside of a potential investment. It’s thus critical that every organization thoroughly evaluate all possible funding sources and leverage points before considering any target.

Reduced debt position for lending — Risk is becoming a lot less desirable than it used to be. Rising costs and lower profits have hurt numerous industries and put many previously successful entities out of business. Those who have financially supported these businesses have taken the brunt of the pain. Thus, the amount of the overall debt that banks are taking on in an acquisition has declined. Even in labels and packaging, where lenders had typically been eager, they are now backing down. If financing is actually approved, it’s at greatly reduced positions, a trend that is likely to continue — and perhaps even worsen — in the near term. This significantly reduces the return opportunity for investors.

Higher risk and less upside for investors are bringing lower valuations, a lower debt position, and more scrutiny to any transaction. This is making investors a lot more analytical in their due diligence.

Future potential does not match recent results — Typically, deals are crafted based on historical performance (which helps substantiate projections). Yet near‐term expectations and financial models are hampering expectations. Our industry is coming off record results, but growth and profit forecasts do not show the same trajectory.

Our industry is under new pressures. Inflation and customer cost‐cutting have weakened demand. At the same time, there is a supply glut due to overstocking during the previous peak market, which is causing material prices to slide. The combination

of this increased available capacity and customer pricing pressure will intensify competition, further lowering margins and opportunity.

Issues in refinancing existing deals — Many previously completed deals are coming to the end of their original terms. However, with significant interest rate

rises and qualification changes, refinancing will be more challenging. Our industry issues and financial market pressures will necessitate new terms — including the possibility for banks to require notable increases in investor funds to achieve the next round of financing. Such requirements will impact investor groups’ ability to make additional investments.

I have always said that labels and packaging is a great space for M&A, and it still is. The above factors just make it more difficult to get deals done. Transactions will not stop; however, we can expect to see the valuations and transaction structure change around these circumstances.

Entrepreneurs interested in selling or buying need to be aware of these arising issues and evaluate their own situations against them. I am always happy to discuss your opportunities and expectations.

Investment timing is always important, but you also need to be aware of the current environment and obstacles you might face. Deals can and will be done but at a price that takes all things into consideration.

Bob Cronin is managing partner of The Open Approach, an M&A consultancy focused exclusively on the world of print. To learn more about The Open Approach, visit www.theopenapproach.net, email Bob Cronin at bobrcronin@aol.com, or call or text +1 630-542-1758.