Initial Look at Indian Heat Treating Market

I’m currently looking into creating a report on Bodycote’s shares and see that they have what they call a strategic outpost in India. They announced their expansion into the country in 2006 near one of its automotive hubs in the western region of India in Pune. I thought it could be interesting to have a quick initial look at this large emerging market. I’ll be getting a lot of information via internet searches from various internet websites which I will try to mention throughout this post. I will not be verifying this information at this stage so there could be large inaccuracies contained in my rough initial overview. I hope over time that I can improve this overview as it is an important growing market for the heat treating industry.

ASM International’s Chennai Chapter provides an estimate of the size of the Indian heat treating market on the website for “Heat Treat & Surface Engineering Conference & Expo 2013.” This is at USD 1bn + with a growth rate of 12% per annum. Bodycote has estimated the size of the global heat treating market at USD 35bn (of which around USD 20bn is in the US) which would suggest that the Indian market is a significant one globally (so a super rough estimate would be almost 3% of the global market if these figures are correct). When DOWA raised its stake in Hightemp Furnaces in 2011, it also estimated growth of the Indian heat treating industry to be at a rate of approximately 12% per annum to 2015. I unfortunately don’t yet have an estimate of captive vs. commercial for the Indian market although, in a 2012 interview with The Monty Heat Treat News, Hightemp Furnaces indicated that the captive market was larger than the commercial but that this scenario was changing rapidly.

What’s the Key Driver?

The long term rise of India as a leading emerging economy is a well known theme. As GDP continues to grow and investment in infrastructure is made, the automobile industry has huge potential. The growth of the Indian automotive industry is providing the demand for most heat treating activities. There are four main hubs and a newer growing 2^nd hub in the west of the country. The industry has experienced a boom in recent years with a 6yr CAGR of 13.1%

Figure 1: Historical Auto Production

* Compound Annual Growth Rate, year end is in March for these figures                                        Source: SIAM

A large segment of this production is of 2- and 3-wheelers but the market share of 4 wheelers is expected to rise over time. Forecasts from the Society of Indian Automobile Manufacturers (SIAM) show tremendous growth in passenger vehicles over the next decade, with a CAGR to March 2021 of 13%.

Figure 2: Passenger Vehicle Production and Forecasts

Note: Year end is in March for these figures, F = Forecast                                                           Source: SIAM

The growth in automobile manufacturing has also driven impressive growth in the auto component industry as the following data from The Automotive Component Manufacturers Association of India (ACMA) show.

Figure 3: Auto Component Industry Turnover and Forecasts

F = forecast                                                                                                                            Source: ACMA

Indian auto component exports are also interesting to show as ACMA forecasts these to grow considerably with Europe accounting for the largest export destination currently (36%).

Figure 4: Auto Component Exports and Forecasts

F = forecast                                                                                                                            Source: ACMA

Other sectors could also be expected to also make an impact on the heat treating industry in the future but for the moment the automobile industry is the dominant factor in India.

Who are the Key Players?

Hightemp Furnaces (DOWA) - http://www.hightemp-furnaces.com/

In 2011, DOWA Thermotech (the world’s 4^th largest heat treater and a unit of Japanese conglomerate DOWA Holdings) expanded their stake in this company to 80% from 16.1%. Hightemp builds furnaces as well as providing heat treatment services (as does DOWA elsewhere). Their website states that they are the largest 3rd party commercial heat treatment company in India with an approximate market share of 40% in industrial heat treatment furnaces.

At the time of the transaction the Nikkei estimated the deal value to be Rs 1.9bn and for 2011 net sales to have been Rs 950m. This would give a EV/Sales multiple of 2.0x (slightly higher than the approximate 1.95x multiple Bodycote paid for CCHT in the US in 2012 although this was a multiple paid for a company without furnace building operations).

With this transaction, DOWA targeted to grow its Indian operations through not only its traditional Japanese client base but also through local and foreign affiliated auto manufacturers (ie Hightemp Furnaces client base). This could be a shrewd move as Figure 5 shows an ACMA estimate of the presence of global manufacturers illustrating a more significant US and European presence, although Japanese manufacturers remain highly active.

Figure 5: Growing presence of Global OEMs – Passenger Car

Source: ACMA (from their illustrative list of auto manufacturers)

Hightemp Furnaces’ website states that it offers heat treatment services aggregating over 1,500 tons per month for 300+ customers and has an installed infrastructure base that includes 40 furnaces (although in a July 2012 interview with The Monty Heat Treat News the President of Hightemp states that the company have 62 operational furnaces). The company has 5 plants, 4 of which offer heat treatment services, situated in the north, west and south of the country.

While Hightemp Furnaces was easy to find, the rest have been less so I expect to have made significant omissions. Here’s a list of some of the more eyecatching companies offering heat treatment services that I came across.

Metals India - http://www.metalsindia.com/

Metals India was established in 1979 and its website states it can now process approximately 1,000 tonnes of materials per month. Metals India’s activities support the Automotive, Tool & Die, Exports, Railway, Aerospace, Defence, Surgical, Plastic and general Engineering industries. The firm is located in Faridabad in the north of the country (close to New Delhi). In a 2012 article, The Economic Times of India stated that there were approximately 20 heat treatment units in Faridabad (mostly small players). Looking at the company’s profile via the Indiamart website shows an annual turnover of approximately USD 2 – 5m. From the Indiamart profile Metals India clients include GM and Honda.

Heat Treaters and Engineers http://www.heattreatersindia.com/index.htm

This company was also established in 1979 and now has a staff of 35 people. The company is located in the East of the country with plants at Ahmedabad and Baroda. The company focuses on induction hardening and tempering, toughing, stress relieving, annealing, normalizing, stabilising, gas nitriding and gas carburising. A quick count shows 13 furnaces at Ahmedabad and 5 furnaces as Baroda (so 18 in total). The company’s client list appears to show mostly local customers.

Therelek Engineers http://www.therelek.com/

Builds and services furnaces as well as providing heat treatment services. The company states that it is the first and only commercial heat treater in the company with NADCAP accreditation (In my search I have seen that Hightemp’s Peenya plant received NADCAP accreditation in 2012). It is the only company that I have seen so far whose heat treating services is largely focussed on the aerospace sector. The website states that customers include OEM suppliers to Whitney, Pratt, Mc Donald, Rolls Royce, Airbus and Boeing.

There are many small players and their remains limited information on websites to assess size and importance of companies in the market. I will conduct another search of the Indian market later this year to see if there are any significant omissions.

International Players in the Market (ex-DOWA)

Bodycote (UK)

In a 2006 press release, Bodycote announced the launch of an initial investment in Pune stating that it would be the largest full service commercial heat facility in India. The company also planned to open up a further 5 facilities by 2011 to service the main manufacturing regions. The Economic Times of India reported that Bodycote planned to have 10 facilities in India in the next ten years (therefore by 2016). In 2007 Bodycote acquired the heat treatment business of Ionbond in India. Presently, Bodycote’s website shows one location in Pune. In its 2007 preliminary results presentation, Bodycote showed that it had 3 heat treatment operating locations in India, possibly suggesting that some operations were closed down in the restructuring program that the company has implemented in recent years. In its Capital Markets Day presentation in 2011, emerging markets were a key area of growth and focus for the company but much of this future expansion was to be in China (and some Eastern Europe). Plans for the Indian operations were to add high-value sales and incremental capacity. This would give the impression that the company will not make large inroads into the Indian market in the short term.

Aalberts Industries (NL)

Aalberts has a presence with its Industrial Services division in the west of the country but I cannot see anything to suggest they have heat treating operations there. It would seem that Hightemp Furnaces shows TTI Group (a division of Aalberts) as a partner, which would suggest that they are licensing surface treatment technology from TTI. In my initial look at the Indian market I see no indications as yet that they would expand into heat treating operations here, although with Aalberts insisting cross-selling is a continuing focus it could mean that more Industrial Services offerings (including heat treating) might be introduced in India in the long term.

Nihon Parkerizing (JP)

Their Indian website includes a “President Massage” in the company section so I am not too sure how serious they are in expanding into India. From their regional headquarters page, it looks like the company provides surface treatment services in the country but no heat treatment services as it does in Indonesia for example.

That rounds up my quick look at the Indian heat treating market. I hope to visit this topic again and in more detail later this year. If you see any inaccuracies, please let me know – I am conducting all my research using internet sources so there could be errors.

Aalberts results - Good company but good share?

Aalberts (AALB) demonstrated solid results today for FY 2012. I have seen various social media comments stating that it is a great company and the results were good. Even though I agree with these statements, does that make AALB shares a good buy? Even if you don’t agree with my conclusion, there’s lots of charts in this article for you to look at which you might like.

In my preliminary draft I underestimated AALB’s  ability to weather the slowdown in Europe, which it appears to have done effectively. This gives me some good information on how to adjust my financial models for the company for when I initiate coverage properly. If you haven’t seen AALB’s press release you can find it here (it’s quite short): http://www.aalberts.nl/en/news_media/news/newsitem/126/Aalberts-Industries-realises-a-revenue-of-more-than-EUR-2-billion-and-a-5-higher-operating-profit-EBITA

I will not summarise most of the operational highlights in the press release, I will just try and add my own initial thoughts to the results for now. I will conduct an in depth analysis into the company once the Annual Report is released on 14^th March. I aim to build a new model to help forecast the company better after that.

Revenues came in at EUR 2.02bn beating the Bloomberg Businessweek consensus of EUR 2.0bn and a rise of 4.5% on 2011 (EUR 1.94bn) . The 10 year CAGR* is an impressive 11.1%, but does include acquisitions. My revenue estimate was EUR 1.96bn – implying that the company’s diversification proved more resilient in the challenging European construction climate than I expected. The top line growth is encouraging given the slowdown in European GDP in the second half of last year. Once decent economic growth rears its head again in developed markets (whenever that may be), AALB should be able to reap the dividends of its efficiency and cross selling drives.  Organic growth was +2.1% in the Flow Control (FC) division and -3.7% in the higher operationally leveraged Industrial Services (IS) division.

Gross margin barely changed at 59.13% vs. 59.15% in 2011. The company has said in the past that it can pass on fluctuations in raw materials prices to customers and this still appears to be the case. EBITDA margin improved slightly to 14.63% from 14.42% in 2011, as SG&A expenses decreased as a proportion of revenue. EBIT margin dropped slightly to 9.98% from 10.04% as D&A charges were higher.

Figure 1: Growth slowed down with no acquisitions being made in 2012, profitability remained strong

Source: Annual Reports, press releases, own work

The ROE of AALB has declined to 14.81% from 16.40% in 2011. This has been driven by continued deleveraging and, to a lesser extent, by a higher effective tax rate as tax losses have already been used up in previous years and a greater proportion of sales now come from the US.

Figure 2: Small decline in ROE

Source: Annual Reports, press releases,  own work

Figure 3: Drivers of ROE, deleveraging was the key driver

Source: Annual Reports, press releases, own work

A measure of overall efficiency that I am using to assess AALB is revenue and net income per employee. AALB is currently generating a record EUR 163m revenue per employee.

Figure 4: Record revenue per employee reached

Source: Annual Reports, press releases, own work

AALB does slightly less well on a bottom line basis, with net income per employee recovered but not at the record 2007 peak level.

Figure 5: Net income per employee is strong but not yet quite at the peak level reached in 2007

Source: Annual Reports, press releases, own work

There are a few reasons for this, the main one being SG&A expenses account for a larger proportion of revenue in 2012. This is primarily due to personnel expenses becoming a greater proportion of revenues (28% vs. 26% in 2007). This could indicate it is more expensive to attract and retain talented employees than it was in 2007 (Note: Although SG&A expenses have been declining as a % of revenues since 2009).

IS (29.4% of 2012 revenue)

From the press release:

“The markets for Industrial Services showed a mixed picture. In some markets, volume decreased during the year, while in various other markets sales continued at normal level. The good profit could especially be achieved due to the continued focus on innovation of new products and technologies in cooperation with customers.”

Although IS revenues grew by 2.8% in 2012 to EUR 595m (2011: EUR 579m), IS experienced a significant drop in organic growth in 2012 to -3.7%. The total revenue was boosted by a full year’s consolidation of Lamers, DEC and Baum.

Figure 6: IS Total and organic growth falling sharply

Source: Annual reports, press releases, own estimates

The impact of the weaker markets in the area of IS can be seen as the EBITA margin declined from 2011’s 13.78% to 13.37% in 2012.

Figure 7: IS Operating margin declining slightly in mixed markets

Source: Annual reports, press releases, own work

The average number of employees in the division increased by 293 to 4,756 as sales and engineering capacity was expanded. When looking at the division on a per employee basis it can be seen that revenue per employee remains strong although has declined by 3.6% to EUR 125,150 per employee in the past year. EBITA per employee has also declined 6.4% to EUR 16,700 from 2011’s record EUR 17,900. On the basis both of these efficiency bases the IS division has just had its 2^nd most productive year after 2011. Once demand picks up in the markets of IS to match this new capacity, IS should be in a good position to capitalise on this.

Figure 8: Operational efficiency remains high

Source: Annual reports, press releases, own work

FC (70.6% of 2012 revenue)

From the press release:

“The markets for Flow Control showed divergent trends. While the market for building installations in Europe remained unchanged and challenging, there was a visible improvement in North America. In the markets for climate control, industry, and oil & gas, good growth could be realised.”

FC revenues grew 5.2% in 2012 to EUR 1.43bn (2011: EUR 1.36bn), organic growth here remained positive at a respectable 2.1%. I will be looking into the key drivers of this in the Annual Report as well as in the AGM minutes later this year, I expect the company to heavily mention cross-selling, key account management and product development but I hope for more details than is given in the press statement to assess the company’s progress better.

Figure 9: FC total and organic revenue growth rates softer in 2012 but remain positive

Source: Annual reports, press releases, own estimates

FC made progress in improving its EBITA margin which increased from 2011’s 9.50% to 9.76% in 2012. The company states in its press release that this was due to an increased marketing and sales focus on rapidly growing product lines and the intensification of sales of complete specified systems (which was one rationale for the Lamers acquisition in 2011). The company said it also expanded its market positions in the industry, district energy and especially oil and gas (with which the BSM Valves acquisition will help in 2013).

Figure 10: FC operating margin made progress in 2012

Source: Annual reports, press releases, own work

The average number of employees decreased by 142 to 7,625 as production efficiency projects progressed. The increased diversification of FC to faster growing market segments such as oil and gas as well as its more complete product offerings is appearing to pay off. Despite the mixed market picture, revenue per employee increased 7.2% to EUR 187,400 and EBITA per employee increased 10.1% to EUR 18,300. This is a good sign for AALB as if more of FC´s markets recover, the company should be in a position to reap the benefits. As the European building installation segment is likely to be depressed for some time, it is encouraging that the US buildings installations segment is growing.

Figure 11: FC operational efficiency drives showing progress

Source: Annual reports, press releases, own work

Geographical analysis

Operations in the US and Germany performed well, while most countries in Western Europe showed slight declines in revenue. US revenues now account for 19.19% of the total group revenues (2011: 17.79%). German revenues now account for 17.66% of total revenues (2011: 17.44%).

Figure 12: 2012 revenue breakdown

Source: Annual reports, press releases, own work

AALB seems to be mentioning expansion in emerging markets (EM) more in its press releases over time. Although this is encouraging it does not seem to be making much progress in the group´s results over the past couple of years. Emerging markets outside Eastern Europe remain a modest segment of the group´s portfolio. This will be something to keep an eye on in the future as it could be a key driver for future growth. Although overall EM revenue is at a record 17.68% of total group revenue, in 2008 this was just a little less at 17.43%. Most of this is accounted for by Eastern Europe which was 10.87% of group revenue in 2012, overtaking France which experienced difficult market conditions. Non-Euro EM has grown from 4.19% of group revenues in 2004 to 6.82% in 2012, it peaked as a percentage of group revenue in 2010 at 6.83%. A long term influencing factor on this could be the balance between energy costs in the US which are expected to decline with the development of shale oil as well as the rising cost of labour in emerging markets.

Figure 13: Emerging market exposure remains modest

Source: Annual reports, press releases, own work

Note: I have taken the “Other ex. Europe” segment of revenues to be Non-Euro EM

AALB’s Share Price

My old target price of EUR 16.79 will probably have to be raised slightly due to these results. However I do not anticipate a significant upgrade of my rating on the stock at this time (although I will be rebuilding my forecasting model). The results while solid and beating my expectations (which were lower than the consensus) are not sufficient in my opinion to be the catalyst to drive AALB’s share price higher given the current price of EUR 16.39. They do however imply the company is well placed to grow in the future, even in tough economic circumstances, with its positioning in growing market segments. If European economic performance begins to trend upwards again and the US housing market continues to improve, AALB should be well placed to capitalise on this.

2012 was a rare year with no acquisitions (except the announcement of BSM Valves, which will be consolidated in 2013). 2013 has already seen a small acquisition of a surface treatment company in Germany, however with the significant deleveraging of the balance sheet I would expect a larger more significant acquisition on the horizon as AALB is rarely quiet on the acquisition front. Assuming no positive surprises in the macro-economic picture, perhaps future acquisitions will be the catalyst to drive this share higher.

Figure 14: AALB’s 1yr share price performance

Source: Yahoo, Annual reports, press releases, own work

Aalberts 2012 Results Preview

Aalberts (AALB) releases their 2012 figures tomorrow before the open.

Revenues: On the Bloomberg Businessweek website, consensus estimates show revenues expected at EUR 2.0bn (2011: EUR 1.9 bn, H1 2012: 1.0bn). The range of expectations is EUR 2.0 – 2.1bn. Currently my draft preliminary analysis of AALB indicates a revenue of EUR 1.968bn slightly below the forecast range and just a 1.60% rise over 2011.

EPS: On the Bloomberg Businessweek website, consensus estimates show EPS before amortisation (I presume before amortisation as it seems high) of EUR 1.41 (2011: EUR 1.36, H1 2012: 0.72). The range of expectations is EUR 1.37 – 1.55. My draft preliminary analysis of AALB indicates EPS at EUR 1.35, which is slightly below the forecast range as well.

No acquisitions in 2012: Unusually for the company, there were no significant acquisitions made by AALB during the year which should enable investors to glean a better look at the organic progress being made by the business (the pro-forma revenues for its 2011 acquisitions can be seen in the 2011 annual report).

Flow Control (FC) – 70% of sales in 2011: Poor European construction figures indicate that the progress of Flow Control (FC) could be limited, the US could mitigate this effect somewhat. I will be looking for more signs of progress on improving margins in the US as the integration of Conbraco continues. It will be interesting to see if the good progress in district heating, gas, industry and beer and soft drink markets, seen in H1, can continue and offset the challenging residential and commercial markets in several European geographies.

Industrial Services (IS) – 30% of sales in 2011: Industrial Services (IS), which is a primarily European division, could have been impacted quite strongly in H2 2012 as GDP trended downwards. The Q3 trading statement indicated stable but lower volumes in IS and I expect this to have continued to be the case in Q4.

The results will be a good test for the company. As transparency in AALB’s business is limited it will be interesting to see how the company has coped with the European downturn in H2 2012, which will be very useful to assess the company´s prospects going forward.

The document with my draft analysis attached to a previous post can be seen via the following link:

https://docs.google.com/file/d/0B6ESf1-JCd-uanFfTmJhNmY0M00/edit?usp=sharing

Speculative Piece: Potential US heat treatment acquisition targets for Aalberts Industries

From time to time I will write on the blog some random thoughts of mine regarding the companies I aim to cover. These posts will be basically me thinking out loud and writing something on the blog as the rubbish Amsterdam weather keeps me inside. This is the first such piece. These are just my initial thoughts on this subject so could be very wrong!

In 2005 Aalberts Industries (AALB) took over the heat treating company Accurate Brazing Corporation (which had revenues of around USD 5m). The company had 2 service centres in Goffstown (New Hampshire) and in Greenville (South Carolina). The Industrial Services (IS) division of AALB already had a small presence in US heat and surface treatment with Ionic Technologies, also based in Greenville. Accurate Brazing has since opened a location in Manchester (Conneticut).

AALB stated at the time in its press release (14/07/05):

“The acquisition of Accurate Brazing ties in with the strategy of Aalberts Industries to gradually extend its network of service centres for heat and surface treatments, most of which is centred in Europe, to the US by means of strategic takeovers of small and medium-sized specialist firms offering high-grade heat treatment technologies.”

Since then the only other acquisition for IS in the US was of the German/US company IDE which was not active in heat treating. The following graph was included by AALB in the most recent investor presentation for H1 2012, I have just added an annotation to it for extra emphasis that it probably didn’t need.

From the graph it is clear that US exposure for the division still remains minimal with revenues of roughly EUR10m in H1 2012. The CEO of Bodycote, the world’s largest commercial heat treating company, estimates that the total worldwide captive and commercial heat treatment industry is approximately USD 35bn with USD 20bn of this coming from the US. Thus the US would appear to be a logical geographical region for AALB to expand in this area.

So, given that, I am conducting a brief analysis into potential North American takeover targets. I am going to rely heavily on “The Monty Heat Treat News”, an excellent resource for heat treating news. They have compiled a list of their estimates of the largest commercial heat treaters in North America which I will use. You can see their list here: http://www.themonty.com/top10largest.htm

The Monty’s estimates were made for the year 2011, I have tried to update the information where I can. I hope to get time to do a more in-depth analysis into the American market this year. The following are my initial thoughts. What’s clear is that 2012 was a busy year for the American heat treating industry. Bodycote has taken out 2 (or one and a half) of the top 5 in the past year, although the Bodycote CEO has indicated that the company will be growing organically mostly rather than through acquisitions for now. This could provide a window of opportunity for AALB.

Number 1: Bodycote

This would definitely not be a bolt-on acquisition so is ruled out!

Number 2: Bluewater Thermal Solutions

This is an interesting one. In 2011, Bluewater had 17 locations in the US and Canada. It is also based in Greenville where Accurate Brazing Corp and Iconic Technologies have a presence. Bodycote estimated it to be the world’s 5^th largest independent thermal processor with an about 2% market share during their 2011 Capital Markets Day.

In October 2012, Bodycote took over the business of Carolina Commerical Heat Treating (CCHT) from Bluewater. This acquisition comprised 7 of the 17 facilities owned by Bluewater. The cash consideration was USD 68m. In the 12 months to September 2012 this acquired business delivered USD 11.7m EBITDA on USD 34.9m sales. This gives us precedent transaction multiples for heat treating acquisitions in North America. So historical EV/Sales is approximately 1.95x and historical EV/EBITDA is 5.81x.

In the same month, the private investment firm, Aterian Investment Partners completed a carve-out acquisition of Bluewater’s remaining heat treating facilities. Soon after in December, Bluewater completed the acquisition of Southwest Heat Treat and Texas Energy Labs, which provides heat treating and laboratory analytical services. This brings the number of heat treating facilities now owned by Bluewater to 11. I would expect more bolt-on transactions from this company over the next few years.

A very rough calculation of 20% of the USD 20bn heat treating market being outsourced to independents and then Bluewater having 2% market share would imply sales of USD 80m. Taking out the roughly USD 35m of sales from the CCHT transaction, this leaves a company with USD 45m of sales (assuming negligible contribution from the Southwest plant). Using the average precedent transaction multiple (of the CCHT and Metal Improvement Co. transactions – see no. 5) would mean a transaction size of USD 77m. In 2011, AALB spent EUR 123m through 3 acquisitions for its IS division meaning that an acquisition of Bluewater´s remaining operations could be within the company´s range.

Aterian will probably want to exit their investment at some point in the future and an acquisition of this size would make AALB’s North American heat treating activities approximately a third as large as its European operations (assuming these account for roughly 3% global market share). Technology transfer could be possible from Europe to North America and vice-versa, potentially creating additional opportunities to add value. However this would be a transformational transaction for the heat treating activities of AALB rather than a bolt-on so would seem unlikely.

Number 3: Paulo Products

A family owned company with 5 locations in Cleveland (Ohio), Kansas City (Missouri), Murfreeboro (Tennessee), Nashville (Tennessee), St. Louis (Missouri). Aalberts currently does not have heat treating facilities in these states. Paulo Products’ headquarters are in St Louis. A look at their website news appears to show GM and Toyota Boshuku (member of the Toyota Group) as customers. A potential acquisition could bring more focus on the automotive market in AALB’s North American operations (Accurate Brazing Corp. focuses on the aircraft, ground turbine and power generation markets) as well as add a valuable set of locations to help AALB become a true regional player in North America.

Number 4: Al-Fe Heat Treating

Specialised player in aluminium treating, its website claims it is “America’s Largest Commercial Aluminium Heat Treater.” It has 6 locations in Charlotte (North Carolina), Wadsworth (Ohio), Wabash (Indiana), Columbia City (Indiana), Defiance (Ohio) and Saginaw (Michigan). Its headquarters are in Indiana. The company serves aerospace, automotive, military and commercial customers. Al-Fe recently completed a USD 20m capital investment to retool its plant in Defiance, Ohio. An acquisition of Al-Fe could help AALB expand as a niche player across geographies in the US.

Number 5: Metal Improvement Company (heat treatment business of Curtiss –Wright Corp)

Too late as it was taken over by Bodycote in April 2012 for USD 52m. The company had 9 locations in North America and sales of USD 36.5m in 2011. Sales in 2011 were approximately USD 35m, EBIT was approximately USD 7.7m. Historical transaction multiples were therefore approximately EV/Sales 1.49x and EV/EBIT 6.75x. Taking an average of the EV/Sales multiples for the CCHT and Metal Improvement Company transactions gives an EV/Sales transaction multiple of 1.72x for the sector.

Others:

No 6: Atmosphere Annealing is part of Brazilian steel conglomerate Gerdau. It has 4 heat treating locations in North America.

No 7: Woodworth Heat Treating based in Michigan. 5 US locations (including affiliate RMT Woodworth) with an additional location in Michigan as well as one in Mexico becoming operational in 2013, bringing the total number of locations to 7. Mainly serves the automotive market. I am not sure if AALB would try to develop a presence in Mexico before gaining more traction in North America. Woodworth has a partial list of current customers here: http://www.woodworthheattreat.com/company_history.aspx

No 8: Solar Atmoshperes. Heat treating is the primary business with sales of approximately USD 25m. The company states on its website that it has 3 plants and serves over 18 industries. The plants are in Pennsylvania (2) and California. The other 2 divisions build vacuum furnaces and, among other things, power supplies for vacuum furnaces.  From what I can see AALB has not expressed an interest in building vacuum furnaces but with other branches of its business it has wanted to provide complete package solutions to customers. However would this extend to servicing the captive market as well as conducting commercial heat treating operations? Using the average EV/Sales transaction multiple for the Solar Atmospheres heat treating business would give a transaction size of USD 43m.

Conclusion

I think I should have conducted this exercise a year or two ago as Bodycote has been very active in this space in 2012. I have only briefly mentioned 8 companies with heat treating operations in the US, there are many more smaller ones. With its strong cash generation, AALB could easily target one of the smaller companies. I would think that if this was the case it would be to acquire a specific technology that it does not currently possess. I hypothesise then that 2 processes would occur. First, the acquired technology could be shared with AALB’s European subsidiaries to enhance the service offerings in Europe. Secondly the US subsidiary could be used as a platform for more bolt-on acquisitions as well as AALB providing the capital investment and technical know-how to broaden the service offering of the new US subsidiary.

I look forward to looking into this topic in more depth later in the year.