Seeking the Perfect Mate Weak profits, niches, new markets drive suppliers

Missed opportunity" is a term auto supplier executives don't like to hear, at least in reference to their own companies.

In the face of narrow profit margins and deep price cuts, when a potentially lucrative corporate marriage presents itself, no one wants to be left at the altar. Perhaps that explains why the frenetic pace of mergers and acquisitions was the top story of 1997 on the automotive supply side.

"There's a sense of urgency that I've never seen before, especially in the area of acquisitions," says industry veteran Gregory Brown, executive vice president of automotive foam trim and carpet cushion supplier Foamex International Inc.

"The attitude seems to be, 'If I don't grow now and buy that company now, I'll be left out.' The big players are out there buying things up, and I think the concern is that they need to do it now before it's gobbled up."

But there's no time for champagne celebrations once a deal has been blessed. In this time of one-stop systems suppliers, it's not enough to have only one mate, so the courtship continues. These days, an announcement of a merger or acquisition does not complete a major corporate initiative. Instead, it often signals that one is just beginning.

Breed Technologies bought its way to the top of the North American seatbelt market with the purchase of AlliedSignal's Safety Restraints business. But the deal hadn't even been finalized when Breed was shaking hands with Siemens Automotive in a joint venture to sell complete safety systems. Why the rush?

"The first to market with a total intelligent restraint system solution will be the market leader," says Charles Speranzella, vice chairman of Breed. "We had to move quickly to show that we are capable of being decisive and that we don't sit on our hands once a strategy is defined."

Federal Mogul Corp. is acquiring British engine seal and parts supplier T&N plc for $3 billion in a bold move to refocus the company on automotive OE business. And Federal Mogul already is working on additional partnerships to provide complete systems for seals and gaskets, as well as engine hard parts, such as pistons and bearings.

"T&N does not represent the finish line for us," says Alan Johnson, Federal Mogul's executive vice president. Between the two of them, T&N and Federal Mogul already are heavy into seals, as well as pistons and bearings. "But we still don't have connecting rods," he says.

The pace in mergers and acquisitions was so harried that it was newsworthy if a week passed without a supplier announcing a joint venture, a purchase or a new operation in North America, Europe or the developing markets of South Amer-ica, Asia/Pacific or India.

Still, some of the activity out there was focused not on growth but on shifting priorities toward core products. A sign that perhaps the mega-suppliers were getting too big came when Delphi Automotive Systems started seeking buyers for several seating, interior lighting and chassis coil spring operations employing 11,300 people around the world. Delphi executives say the proposed sales are necessary because the facilities are not meeting profitability targets.

The obvious question is whether Peregrine Inc. or one of the mega-seating suppliers would make an offer. (Lear Corp. and Magna Corp. are rumored to be very interested.) After all, Peregrine waslaunched just a year ago to resurrect four failing Delphi plants and was turning a profit within six months.

"We, as well as many others, will be looking at the Delphi businesses," says Edward Gulda, Peregrine's chairman and CEO. He declines further comment, but he agrees with the notion that biggest isn't always best when it comes to automotive suppliers.

"The wise joining of companies will continue, but the random acquisition of companies for size will be severely challenged by the marketplace," Mr. Gulda says. "You have to be adding value."

This year also was a time for considerable rebuilding among suppliers, not only in their management ranks but in their corporate identities. Federal Mogul, led by new Chairman and CEO Richard Snell, sold more than 160 retail and wholesale operations worldwide, most of them aftermarket outlets, before moving on to the T&N deal.

Likewise, ITT Automotive, with its new President Frank Macher, has been aggressively cutting costs. The company is closing its plant in Mississauga, Ont.; expects this year to dispose of a body parts manufacturing operation in Bergneustadt, Germany; and is downsizing facilities including Asheville, NC, Kettering, OH, and Frankfurt, Germany.

This is on top of the sale earlier this year of ITT Automotive's North American aftermarket division to Echlin Inc.

While it may appear ITT is stepping out of automotive, Mr. Macher says his company has no such intentions, and that the restructuring is designed to help the company focus more heavily on its core products: brakes, chassis products and electrical systems.

"We're trying to make those our core businesses," he says at a recent Automotive Press Assn. event in Detroit. "We're trying to focus on what we're good at."

In fact, the company also has launched a radio and print advertising campaign in metro Detroit to promote the use of antilock braking systems, which have suffered recently from stagnating sales (see p.9). Mr. Macher also says ITT Automotive is targeting the difficult Japanese market as its next area of expansion, with plans to build a research and development center there for the sale of its antilock braking and stability management systems.

Access to new markets, new customers and new technology was a key driver behind many of the mergers and acquisitions of 1997, says analyst David Andrea of Roney & Co.

Rather than spend a lot of time and money to develop a new product, it often makes more sense to pair up with a company that already possesses the expertise. Lear Corp., for instance, gains electronics capabilities in its 50-50 joint venture with Donnelly Corp. to make headliners. Similarly, Breed gets badly needed electronic sensors in its Siemens venture.

Mr. Andrea says he expects to see more joint ventures in the future, as opposed to outright acquisitions. "People are looking for a more efficient way to tap in to a processing or product technology without having to commit the capital to bring it in-house," he says.

Still, many suppliers will not be scared off by the high acquisition prices. "What you want is an acquisition that can be explained that adds net income within six to 12 months. If it's adding so much debt that a supplier can't reach a balance sheet, that gets difficult to explain to shareholders. It's one of those things where if the strategy is right and it makes sense, it's worth the price," says Mr. Andrea.

Carving out a market niche by doing one or two things very well is a good recipe for profitability, says analyst Craig Fitzgerald of accounting firm Plante & Moran of Southfield, MI.

He says dwindling profits continue to dog automotive suppliers, and that average earnings, after interest and taxes, have dropped from 7% in 1992 to 4% in 1997 for the 300-some small to midsize suppliers his company serves. Mr. Fitzgerald says suppliers need to earn about 8% to keep shareholders happy.

"If you can't move the margins up, you will see people slowly pulling their money out of the supply base, and you're starting to see that," he says.

Mr. Fitzgerald says he is aware of several potential sales being negotiated now because of weak supplier profit margins. "People want to get out of the business because their feeling is, in the long term, they will do better with their money invested elsewhere," he says.

But good news may be on the horizon. Mr. Fitzgerald expects earnings to climb over the next few years as companies grow, focus on core competencies and get better at product design and engineering, which is a relatively new duty passed down from the OEMs.

What does 1998 hold for automotive suppliers? Steel suppliers in particular are looking for brisk business next year, thanks, in part, to booming light-truck sales.

Robert Dombrowski, vice president of sales and marketing for Inland Steel Bar Co., a unit of Inland Steel Industries, says his operation has been running at full capacity "for the last two or three years, and we expect that to continue for another year."

Inland Steel Bar has annual production capacity of 900,000 tons, with nearly half of the total used in automotive applications such as axles and other structural components.

He says strong light-truck sales "have had a stabilizing impact" on steel bar producers.

But what if the bottom drops out on the truck market and Americans suddenly decide that big and burly SUVs are no longer chic? Are suppliers prepared for such a downturn?

Terry Graessle, vice president of sales and marketing for Cooper Automotive, says he sees little slowdown in the SUV market. And that's good news for Cooper's Wagner Lighting Div., which supplies exterior lighting for Dodge Durango, Jeep Wrangler, Jeep Cherokee, Dodge Ram and Dodge Dakota. Future contracts include the headlamp, foglamp and headlamp mounting module for the 2001 Jeep Cherokee.

"The public likes these vehicles," Mr. Graessle says. "The perception is that people graduate to SUVs after driving other, smaller vehicles. Gas prices make them attractive, and everyone is coming to market with an SUV. There are so many choices for consumers."

In the area of corporate marriages, Mr. Gulda of Peregrine expects many companies to keep looking for that perfect mate, or mates.

"It has kept a steady head of steam," he says. "People who are waiting for a rest, I think, will be disappointed."

- with David C. Smith