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Large engineering and construction firms have stockpiled record levels of cash and expect to buy smaller companies at better prices as the credit crisis sours the wider economy in the year ahead, mergermarket reports. But many contractors, who rely on credit to run their operations, face challenges, industry sources said.
Engineering firms serving the booming oil and gas, power and infrastructure sectors, such as Fluor Corporation, Jacobs Engineering and The Shaw Group, have enjoyed record earnings and backlogs in 2008 and are in strong positions to buy. “All say they’re going to be aggressive on acquisitions in 2009. They expect to do it in cash and get better multiples because of Wall Street’s meltdown and because private equity is not the force it once was in driving up the multiples,” one banker observed.
Irving, Texas-based Fluor, which has a record USD 2.35bn in cash on its balance sheet, has called acquisitions its “number one priority” despite not doing a deal since 2004. “Given the change in valuations and change in people’s perception, we may see some opportunities going forward,” said chief financial officer Michael Steuert. Fluor has been cautious about reentering the acquisition arena after past deals in mining and equipment leasing did not work out, said the banker.
Executives at both Louisiana-based Shaw Group and California-based Jacobs Engineering say they expect to buy smaller companies that face capital constrains in today’s weak credit markets and do not have the stomach to go through another five-year business cycle. Shaw had record cash of USD 690m, while Jacobs, with a history of successful acquisitions, had USD 500m in cash.
Companies, such as Shaw, Foster Wheeler, Fluor and AZZ, remain bullish about power projects as the need to rebuild the country’s aging power plants and the prospect that the next administration will formulate a national energy program is expected to release pent up demand for their services.
Deal flow will be strong because most buyers use cash and keep mainly debt free, so they have little need to access the frozen credit markets, said the banker. As the business cycle gets shakier there will be more willing sellers too, and because the number of private companies dwarfs the public ones most deals will be of privately-held companies, he added.
However, large sub-contractors who are dependent on credit to run their businesses are likely to be affected by the credit crisis, said a second banker. He pointed to EMCOR, Quanta Services, Comfort Systems, Sterling Construction and Integrated Electrical Services (IES) as companies that could be negatively affected by the worsening credit crisis because they have significant credit needs to pay for their workforce, said a second banker. “All face potential bonding constraints that could force some activity. It’s always a concern,” he said.
Bill Schneider, CEO of Knife River Corporation, the construction materials and contracting arm of North Dakota-based MDU Resources, said many contractors would struggle to survive the tighter credit markets. The company, which has done 70 acquisitions, is cutting its workforce to survive the downturn, particularly with residential construction down 27%. But he argued at a recent investor conference that his firm was protected thanks to its 11-month inventory. “We’re going to see more and more opportunities for acquisition coming up every week,” Schneider told investors. “We know there’s going to be some downsizing in the number of competitors in our industry. There are those not in good financial shape. One thing is for sure: 12-24 months from now the competition will lessen,” he said. “I was in Sacramento and four of our competitors there filed for bankruptcy in the last three months.”
Granite Construction, a heavy civil contractor that also has a construction materials division, is less vulnerable than other contractors because of its strong balance sheet, secure lines of credit and “culture of rugged independence,” both bankers said. Mark Boitano, chief operating officer, says Granite has been standing on the sidelines waiting for multiples to come down and believes opportunities to buy will improve over the next 12 months. “I don’t think [Wall Street’s meltdown] will have very much of an impact other than reduce the expectations of sellers,” he said. Despite weakness in its western US business, largely because it is selling less ready-mix and aggregates to the struggling homebuilding market, Granite is looking to buy private aggregates producers.
The first banker said that the credit crisis itself will not push private companies to sell. “It depends on [the seller’s] position in life, age, their personal life, the need to reward and bring others into equity positions,” said the banker. “It’s usually not because of the economic climate. However, if someone has a strong motivation to sell then the economic downturn can trigger it because some people don’t want to face another business cycle. But the underlying motivation must be there.”
While larger strategic players are enjoying their moment in the sun, private equity players are still involved in E&C deals despite the difficulty they have in raising debt to pay for them, according to the second banker. PE firms can still manage USD 50m deals provided they can find a single bank - not a syndication of banks - to handle USD 30m-USD 40m in debt, said the banker. Many PE firms are now looking at doing all-equity deals too. “They have the capital, they don’t want to give it back to the unit holders, so they buy, and when the turmoil ends they will refinance.”
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