Mergers and acquisitions (M&As) are a fundamental component of the waste industry that help shape the makeup of the entire environmental services sector.
Waste Today talked with Effram Kaplan, managing director and principal of Cleveland-based Brown Gibbons Lang & Co., about the state of merger and acquisition activity and recent trends affecting capital markets access.
Waste Today (WT): How have you seen the environmental services sector change regarding consolidation and capital markets in the past decade or so?
Effram Kaplan (EK): The environmental services landscape has evolved quite significantly over the past decade. Pre-Great Recession, as our Environmental and Industrial Services (EIS) investment banking efforts were gaining traction, the capital markets opportunities within EIS outside of solid waste were largely untapped. Similar to the solid waste industry, these EIS subsectors were also highly fragmented, regional and local in nature and ripe for consolidation. As several high quality specialty environmental services businesses transacted within the 2011 to 2013 period, the capital markets took notice. Not only did these companies perform relatively well during a major market downturn, they also exhibited key criteria that investors found attractive: essential nature of services; high barriers to entry; demonstrated track record of organic and acquisitive growth; and a limited number of sizable, well-established regional and national players.
We have witnessed aggressive capital markets and private equity investment into multiple environmental services subsectors in the recent past, with the formation of regional and multi-regional growth platforms seeking acquisitions. Given the private equity investment cycle, the sector will likely experience another wave of consolidation in the coming years as platforms combine into national scale players. In fact, we are already starting to observe that trend in certain subsectors, particularly industrial cleaning, where consolidation has accelerated over the past two years and, more recently, the wastewater space.
There has also been a relative sea change across the broader capital markets. Pre-Great Recession, the M&A market was very strong. The equity and debt capital markets were highly liquid, but due diligence was light with limited controls. Today, the M&A market remains strong. Debt and equity capital are plentiful, and valuations continue to be healthy. However, the primary difference is a higher bar for due diligence when acquiring or investing in businesses. High quality (A and B+) companies are attracting premium valuations; however, underprepared businesses can struggle with the rigors of a diligence process in today’s market.
WT: What are some things you’re looking at that tell you that the market is strong now?
EK: In the middle market, the most meaningful measurements of market strength are robust valuation multiples and transaction volume. Solid company performance and ample liquidity, in the form of available equity and debt capital, provide the foundation for a strong market.
There are three things specifically that I’d point to that help create a strong market: 1. There is solid financial performance. We are seeing strong organic growth coupled with accretive acquisitions. 2. The equity capital markets are evolving and dynamic. Traditional institutional private equity firms are raising record amounts of capital. In addition, alternative investment models that include independent sponsors and family offices, differentiated by expected return criteria, time horizon and operational skill set, have created a highly competitive market for buyers that is seller-friendly. 3. There is a robust debt market. The proliferation of “nonbank lenders” has led to flexible payment terms, competitive interest rates, borrower-friendly covenants and aggressive leverage, all of which alleviate concerns when financing transactions.
WT: What is the mindset of the business owners you come in contact with today regarding capital markets?
EK: It varies by size of the organization. It is reasonable to say that the more established national and multiregional players are well-informed. They may seek proprietary intelligence on consolidation trends, as well as advice on acquisition growth opportunities. However, most shareholders and operating executives, especially those not participating in the public markets, often are not deeply tied into the nuances of the M&A and capital markets. Their effort and focus is on executing the business plan and growing the organization. For this reason, they often will seek the expertise of investment bankers for market insight and efficient and successful transaction execution. It is not unusual for an organization to be unprepared for an acquisition or capital raise, which will require significant preparation time in advance of an M&A transaction or before accessing the capital markets. Firms that are more prepared for an exit can typically complete a transaction in a more time efficient manner and, in most cases, at higher valuations.
WT: What do you expect to see in the coming years when it comes to M&A and capital markets movement?
EK: Our EIS team maintains proprietary M&A data for the environmental and industrial services sectors, and we are seeing record levels of transaction volume. This data, coupled with a reference to historical economic cycles and the health of the capital markets, suggests that we are deep into the cycle.
While it is very difficult to forecast economic activity over the coming quarters, I do believe there is a long, multidecade run in consolidation for environmental and industrial services, broadly speaking. We have witnessed recent transactions that support this thesis.
For example, when Waste Connections—a pure play solid waste business—acquired service provider R360, it entered a new market and a new waste stream. We saw Republic Services acquire Tervita Oil Disposal Services. Clean Harbors, a bellwether environmental business, purchased Veolia’s industrial cleaning business. These transactions illustrate the acquisition of new capabilities and new waste streams. Further, the private equity community will continue to drive consolidation within the middle market, with the likely emergence of sizable multi-regional and national players across most environmental services subsectors as platforms begin to merge.