THE MIDDLE GOES GLOBAL

We know from the principle of osmosis that liquid naturally flows from an area of high concentration through a semi-permeable membrane to an area of lower concentration.

Applying this rule to the US middle market, think of the Atlantic Ocean as a semi-permeable membrane through which American equity capital is flowing in search of what is perceived to be the lower concentration of the European private market.

Whether they are being pulled there or pushed, there has been a gradual but unmistakable movement of US middle-market firms “across the pond.”

According to recent Mergerstat data, US buyers did 591 cross-border, middle-market deals worth $13.1 billion (€10.9 billion) for the year-to-date. This compares with 388 such deals worth $7.4 billion over the same period a year earlier. The top destination for globally-minded US buyers is currently nearby Canada (see story p. 58). But hot on Canada's heels is the UK, which has seen 81 US-sponsored middle-market deals worth $1.7 billion for the year to date; then Holland, which saw $2.2 billion in 50 such deals. The top buyers of these middle-market assets have been private equity firms, according to Mergerstat.

Anecdotal evidence points to this transactional wanderlust being not a fluke, but a significant trend.

US mega-firms have been flocking to Europe since the late 1990s, lured by the opportunities of a restructuring corporate landscape prowled by relatively less capital, compared with the US market. Ditto now for the middle market.

These pond-crossing middle-market GPs are interested in Europe not so much as a market unto itself, but because it represents an opportunity to build global platforms.

A sampling of significant transatlantic middle-market deals:

  • • In 2001, Littlejohn & Co. bought a France-based specialty chemical division from Goodyear Tire & Rubber, renaming the business Eliokem. At the time of the purchase, one-third of Eliokem's production took place at a plant in Ohio.
  • • Last year, Boston middle-market specialist Audax Group invested in ([A-z]+)-based radiography company Swissray, which also has facilities in the Czech Republic, Romania, Germany and New Jersey. The firm earlier combined a German company with a Connecticut company to form Nash Elmo, a vacuum technology platform.
  • • A year ago, New York's Harvest Partners and Deutsche Beteiligungs acquired a papers division of Netherlands-based Akzo Nobel. In a statement, a Deutsche Beteiligungs partner said: “North America is Casco's most important international market. Through Harvest Partners' involvement, local competence will be available to support Casco's progress.”
  • • In September, Germany's ThyssenKrupp sold scaffolding division Huennebeck to Florida middle-market turnaround firm Sun Capital Partners.
  • A partner at a major US middlemarket investment bank says that he knows of at least two middle-market buyout firms that are exploring raising euro-denominated funds for investment in the European market.

    A US buyer can claim to provide something to a European seller that most local firms cannot – access to the US market. “A lot of middle-market companies in Europe are solid, but for them to grow organically, they need to come up with new products or new customers,” says the middle- market investment banker. “If they are interested in going to the US, they might not have the wherewithal for getting into Wal-Mart, and this is where a US buyer can help.”

    From the US private equity firm's point of view, international business platforms are becoming increasingly attractive to corporate customers and strategic acquirers alike, even within relatively small markets.

    “There's a meta-trend of middlemarket companies supplying large international companies,” says the investment banker. “Even if you're a middle-market company selling something to a Fortune 500 corporation, they'll say 'We want to pare down and partner with firms that can supply us globally.”

    Truth be told, if the US middlemarket were a much more compelling place to make money, most of these GPs wouldn't be spending their time and energy kicking tyres in Europe. But US deal intermediaries describe an environment that is reaching a level of efficiency close to that of the mega-deal market, with every transaction heavily shopped among buyers and purchase-price multiples creeping up to head-scratching levels. European middlemarket players may have thought their market was competitive enough, thank you. But they'll know their market has reached equilibrium with the US as soon as the dollars stop flowing across the Atlantic.