mutares AG — European restructuring expertise

Founded and listed in 2008, mutares AG is a special situations investor which acquires and turns around unlisted companies that are financially or operationally weak, or challenged by succession issues. Its focus and expertise lie in five industry segments: automotive; consumer goods & logistics; wood & paper; construction & infrastructure; and engineering & technology. Currently, it has 13 portfolio companies and over 3,000 employees. Headquartered in Munich, mutares also has an office in Paris.

By revenues, the company is well diversified across its five industry segments though in NAV terms, the automotive segment is the most important at 34%. Geographically, mutares’s exposure is Europe dominant, accounting for 94% of revenues (Exhibits 1 to 3).

The company believes its advantage is its operational and industry expertise. It directly employs 50 highly experienced staff, of which 20 are dedicated M&A specialists and 40 have operational expertise across the group’s five sectors. This structure allows mutares to grow by both turning underperforming companies around as well as through acquisitions. It targets to complete five transactions per annum and to achieve revenues of €1.8bn by 2018 (€648m in 2016).

Investing in turnaround companies is inherently risky, therefore portfolio companies are held in separate limited liability legal entities and mutares AG is, in effect, a holding company. This helps mitigate risk of single company failures and losses are largely contained to the value of the individual investment. mutares’s dividend policy is to pay a base dividend (and has done so in loss making years) and to pay special dividends of up to 80% of the net profits from exits.

Strategy

mutares’s business model is to acquire companies in turnaround situations. It looks for particular characteristics in its potential investments:

These turnaround investments are referred to by the company as ‘platform’ investments to which it may also make ‘add on’ investments as part of its build strategy to extract synergy and value. As at the end of December 2016, mutares’s portfolio consisted of 14 platform investments (Exhibit 4).

mutares is an active investor and works in close collaboration with incumbent managements to form restructuring plans and provide operational and financial resources, drawing on its pool of professionals. Once a company has returned to sustainable profitability, normally expected within 18-24 months, it can be considered for exit. In some cases, mutares may judge there is scope to create more value through further strategic development and making add-on acquisitions.

This ‘buy and build’ approach to its investments has become more commonplace as its reputation has grown in post-merger integration and longer-term strategic development. In some industries, automotive parts in particular, mutares is seen as a consolidator which in turn has attracted acquisition candidates.

The STS Group is an example of mutares’s ‘buy and build’ strategy. In 2013, mutares acquired loss-making auto parts supplier STS and turned around its profitability. Instead of looking for an exit, mutares identified two strategic companies in synergistic areas and acquired the plant assets of Mecaplast Group and has nearly completed its acquisition of the trucks supply businesses of Plastic Omnium. Combined, the STS Group has become the largest European truck cabin components manufacturer with a turnover of around €400m and 15 production facilities on three continents. It is likely to look for more add-on acquisitions to further establish STS Group’s position as a leading global supplier. mutares is of the view that this will enhance value meaningfully ahead of choosing a nearer-term exit.

In 2016, the company has completed five (nearly six) transactions. Two of which (as discussed above) were add-on acquisitions for STS Group. Two further add-on acquisitions were made in the consumer segment for homeware distributor, Artmadis which should help grow its revenues to around €100m (from €76m in 2016).

Two platform investments were also made. Balcke-Durr, a manufacturer of energy efficient components with a turnover of €142m was added to the engineering and technology segment; and Cenpa, a manufacturer of cardboard products with turnover of €32m was added to the wood and paper segment.

Since the beginning of 2017, the level of M&A activity has kept pace with a further three transactions already completed.

In February, it announced a partial sale of EUPEC consisting of its German manufacturing facility for €19.5m to Wasco Group of Malaysia (mutares retains the operating business of EUPEC). Through earn-out payments until 2019, the proceeds could increase by another €12.5m, bringing the total consideration to €32m. This sale is highly profitable for mutares as the asset was acquired for a nominal sum and, given the holding structure of the asset, a very low tax rate applies. Thus most of the proceeds should flow directly into the company as cash. Earlier this month, mutares completed the add-on acquisition of Aperam’s stainless steel welded tubes business in France. This generated revenues of €64m in 2016 and complements portfolio company, BSL a French manufacturer of pipes and fittings for the oil and gas industry.

Potential catalysts

Within mutares’s portfolio, there is good restructuring progress being made and several companies could be considered for exit. Subject to market conditions, further company disposals could take place this year and next. Potential candidates include:

Although STS Group has been successfully turned around, an exit is unlikely this year as management sees significant value to be created from its strategy to establish the company as a leading global player in truck cabin parts.

Overall, it would appear that there is value to be unlocked in the mutares portfolio which is not reflected in the 2016 NAV.

Successful exits are likely to result in higher dividends given mutares’s dividend policy is to pay up to 80% of exit profits to shareholders. Although management may choose to retain a larger proportion for reinvestment, the EUPEC disposal gives scope for an increased dividend payout in 2017 which could be further supported by additional exits during the year.

In 2016, economic growth continued to recover in the euro area, the critical region for mutares’ business activities, with Germany continuing to be the anchor of economic stability in the region. The ifo Institute forecasts 1.6% GDP growth in the euro area in 2017 (1.7% in 2016) and for unemployment to moderate slightly to 9.7% (10.1% in 2016).

The company observes the environment for acquiring unprofitable companies to continue to be favourable, especially in France and Italy where its expertise in workforce restructuring is attractive to business sellers (and as a result mutares opened an office in Paris in 2016 and will open an office in Milan later this year). Meanwhile, a continued economic recovery, especially in consumption, is supportive for its ongoing restructurings.

Sentiment for the German private equity sector remains optimistic. BVK’s (German Private Equity and Venture Capital Association) recent ‘Private Equity Forecast 2017’ report finds 48% of equity investment companies expect an increase in acquisition activity and 19% anticipate an increase in divestments.

German corporate law requires public companies to have two boards: a management board and a supervisory board. The board of management is executive and responsible for the management of the company. The supervisory board is made of non-executives whose role is to oversee the board of management and appoint its members.

The executive board is currently made up of five members, including the co-founders Robin Laik and Dr Axel Geuer. Each board member holds a senior management role and has a designated industry segment focus as follows:

Shareholders and free float

Founders Robin Laik and Dr Axel Geuer are the largest shareholders in mutares, with each owning 27% of the company (as shown in Exhibit 5). The free float was increased in October 2015 to 46% following the placement of founders’ shares. Management has expressed reluctance to reduce its stake any further given adequate capital resources, the desire to retain control of the company and their belief that the shares are deeply undervalued.

Income statement

HGB accounting standards values investments at the lower of cost or mark to market accounting; accordingly, reported income is conservative.

The company recently reported 2016 revenues of €647.8m (€683.8m in 2015) and a net earnings loss of €5.3m (€6.8m in 2015). Part of the decline in revenues is due to changes in and timings of consolidations and deconsolidations. Adjusting for these, revenues unaffected by these consolidation changes fell 11%. Making the same adjustments for net income shows a loss of €19m (Exhibits 6 and 7).

The company attributes much of the weaker performance to EUPEC. A provider of coatings for oil and gas pipelines, it suffered from exceptionally weak conditions in the oil and gas industry during the year with projects being postponed or cancelled. That resulted in an extraordinary decline in revenues and the company turned loss making. An extensive restructuring plan has since been initiated, involving capacity and cost adjustments. Alongside a gradual improvement in demand, mutares expects its revenues to start to recover in the current year.

Balance sheet and cash flow

Total assets of the company grew to €473m (€415m in 2015) reflecting its acquisitive pace. Shareholders’ equity declined to €57m (€73m in 2015) due to dividend payments of €9.3m and a net loss of €5.3m.

Nevertheless, the balance sheet remains strong with cash and near cash of over €60m which is ample to support its existing and foreseeable investments. The balance sheet was bolstered by a successful capital increase in October 2015, raising €24.5m at €17.50 per share). Post results, the company concluded the partial sale of EUPEC which will further boost its cash position as most of the €19.5m proceeds are expected to flow directly to the company. A further €12.5m from earn-outs may also accrue through to 2019.

As at end December 2016, the NAV was €307.9m. The company uses a discounted cash flow approach to the valuation and applies annual growth rates of between 0.5% and 1.5% over three years to each company, using WACCs that reflect industry and country specific rates which lie between 5.7% and 11.2%.

During the year, the NAV fell by €44m against the reported €351.9m for end 2015. In addition to the payment of dividends and earnings losses of €9.3m and €5.3m respectively, the decline in NAV was caused by significant downward adjustments to investment valuations. This was mostly attributable to EUPEC which, as discussed above, suffered from a very weak industry environment and turned loss making. Smaller impacts came from the write down of Grosbill and a downward adjustment to valuation for GeersinkNorba which has faced a challenging operating environment for several years. Significant valuation mark ups, however, were applied to A+F and to STS Group.

At the current share price, mutares is trading at a significant 30% discount to NAV. The €0.35 per share dividend (€0.60 in 2015) represents a respectable yield of 2.5%. Prospects for a higher pay out in 2017 are good following the recent partial sale of EUPEC for €19.5m (potentially rising to €32m by 2019 through earn outs). Management indicated the acquisition cost was nominal. For illustrative purposes, if the net profit of the sale amounts to €10m, the company could pay over €0.50 per share if it applies the maximum policy ratio of 80%. This more than covers the €5.4m cost of the recently declared dividend while the possibility of one or two more exits this year could provide further scope to raise dividends. These prospects may prompt a narrowing of the wide discount. Furthermore, the company will increase the frequency of its NAV publication from six monthly to quarterly to improve transparency for investors.