Fitch: Volvo Deals Signal Capital Goods Retrenchment in 2014

Swedish truck manufacturer Volvo’s sale of an equipment rental unit and acquisition of a mining equipment business signal another round of merger and acquisition (M&A) by European capital goods companies in 2014 as they focus on core or high-return businesses, according to credit ratings agency (CRA) Fitch Ratings.

Volvo has announced an agreement to sell the rental business in North America to US private equity (PE) firm Platinum Equity in a 7.2 billion krona (SKR) deal

Fitch comments that the deal marks a shift in M&A activity towards portfolio realignments from opportunistic growth investments over previous years. The CRA believes the focus on exiting underperforming businesses or those in the most competitive markets will strengthen companies’ credit profiles in the long term by improving stability and reducing leverage. However, any short-term benefit will be limited and there is a risk that large concurrent acquisitions and disposals could divert management attention away from day-to-day operations.

The retrenchment to core businesses is a continuation of defensive strategies adopted by capital goods companies in the face of a challenging operating environment. While the eurozone is gradually returning to growth, Fitch believes it will take time for improving consumer and business confidence to translate into new orders for capital goods. At the same time the sector is facing slowing growth in emerging markets.

Refocusing business portfolios in the face of these headwinds is a multi-year process and is often subject to delays. Philips’ deal to sell consumer electronics operations to Funai Electric has collapsed, although the group has made progress in shifting its portfolio towards higher-margin healthcare markets and reducing its exposure to consumer electronics. Siemens’ spin-off and listing of OSRAM was equally marked by delays for years before concluding in mid-2013.

Other capital goods companies in the process of refocusing their portfolios include GEA, which is spinning off its operations in the highly competitive heat-exchanger market and looking for acquisitions in the food and beverage equipment sector, where it is already strong. Siemens is also looking to sell its baggage handling and postal automation operations and has already sold its water treatment business.

Buyers for the units up for sale are likely to be either companies seeking scale in a competitive market (for example Funai’s now-halted deal with Philips) or financial buyers such as PE firm Platinum Equity, which is buying Volvo Rents in North America. The Volvo unit is currently loss-making and the sale will support cash generation.

The sale proceeds will also dampen the pressure on credit metrics from the company’s Dongfeng Commercial Vehicle and Terex acquisitions. Terex will further expand Volvo’s presence in China and its light mining rigid haulers will complement the group’s leading position in articulated haulers. However, we remain cautious about the sluggish outlook for new mining equipment.

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