The forward-facing nature of the engineering and manufacturing sector has driven positive investor sentiment within the industry, enabling it to successfully adapt to external economic headwinds.

Despite the M&A market being affected by macroeconomic factors such as inflation, interest and valuation gaps, the mid-market was able to navigate these challenges in 2023. Across Europe, RSM advised on 141 completed transactions in the engineering and manufacturing sector, more than in any other sector for completed transactions in 2023.

Whilst the sector's deal making performance in the first half of the year was consistent with reduced numbers reported across other sectors, the second half of the year proved decisive, with engineering and manufacturing transactions picking up significantly in the second half of 2023.

The industry's resilience was driven by strong performances in key sub-sectors and comes as businesses adapt to global disruptors and the evolving Environmental, Social and Governance (ESG) landscape in which they operate.

Investment strategies in engineering and manufacturing

ESG as a guiding light

M&A activity within engineering and manufacturing has proved instrumental. It will continue to be pivotal in supporting businesses to progress on their sustainability journeys. To define and develop their investment strategies, businesses are conducting rigorous analysis of their value chains to spot compliance gaps and how these can be addressed by investing.

The increasing scale of regulatory compliance required is driving c-suite decision making for businesses to accomplish sustainability and broader ESG initiatives. This is particularly prevalent within engineering and manufacturing specifically, where transactions across Europe are increasingly being guided by ESG.

Phil Parkes, Partner at RSM UK, says, "On their sustainability journeys, businesses are faced with increasing regulatory compliance requirements, along with a drive to accelerate adherence as a result of pressure applied by consumers and competitors too. M&A is therefore proving a key route for businesses to accelerate their innovation and decarbonise their value chains.

As businesses scope their future dealmaking, ESG maturity is proving to be a decisive factor in defining a business' deal-making attractiveness. Should a transaction not correspond with ESG requirements, then the increased scrutiny means it is less likely to be pursued. This is indicative of ESG being an integral due diligence component, one that is here to stay within the engineering and manufacturing sector.

Businesses dealing with disruptors

Adding security and minimising supply chain risks

Global disruptors faced in 2023 will continue to be felt in 2024. Engineering and manufacturing's reliance on carbon makes it particularly susceptible to hikes in energy prices. The sector additionally faces mounting staff costs arising from pay adjustments made by companies to offset cost-of-living pressures. The effects of these challenges can disincentivise deal making in the eyes of investors.

Supply chain disruption has been an ongoing issue since the Covid pandemic, during which the vulnerability of global supply chains was exposed. This led to instability globally, supply chain delays and subsequently increased prices.

Across a number of transactions, RSM has seen the impact of increased supply costs on businesses, their ability to meet demand and the impact it can have on margins. Many businesses have sought to add more security to their supply. However, this can have unintended impacts, such as locking up cash in working capital.

Global supply is also severely impacted by pinch points, such as those witnessed in the Red Sea region recently following the escalation of regional conflicts. Many container ships are now diverted on longer routes, which in turn severely impacts lead times. In addition to this, chip shortages have also had an impact on technological advancements in the sector, adding to development timelines which ultimately impact the achievement of strategic goals around efficiency and automation.

Freek van der Linden, Director at RSM Netherlands, says, "In response to disruptors, the levers engineering and manufacturing businesses can pull are limited. RSM is seeing businesses across the industry, and a wide variety of other sectors, seeking to derisk and shorten their supply chains to minimise global shocks, which may have significant impact on cost of sales and working capital requirements."

Subsectors shaping the future

The rate of technological advancement is proving a driver of investment, which has propelled certain subsectors within engineering and manufacturing. In this regard, transactions within healthcare and energy transition across continental Europe have provided positive outlooks and have significantly contributed to the sector's buoyancy.

Deal making within electronic products, food, and drink and automotive have also delivered growth in 2023, all of which are trends RSM expects to continue in 2024. Central to future growth is investment in technologies such as Al (Artificial Intelligence), machine learning and robotics. They are all key focus areas in engineering and manufacturing to achieve efficiency savings and productivity gains to counter the disruptors and pressures being felt by the mid-market.

The acquisition of innovative technologies or capabilities enables businesses to remain competitive and expand their market presence. Businesses with unique innovative offerings and strong R&D (Research & Development) teams will be prime targets for transactions as businesses and investors seek to accelerate their own efforts, shorten lead times to market and stay ahead of competitors.

Dr Nils Mengen, Partner at RSM Ebner Stolz, says: "Engineering and Manufacturing's robust performance has been sub-sector driven, with production technology being the key and common factor driving the industry's collective progress. However, merely having the machinery is not enough, businesses need the software and digital solutions to maximise their technology's full potential."

Outlook for M&A

Current market sentiment indications show that deal activity across the engineering and manufacturing sector will pick up during 2024 and continue into 2025. This projection is supported by private equity’s growing interest in investing in the sector, at a time where investors have cash to deploy and assets in their portfolios which need to be realised.

Crucially, the cooling of macroeconomic challenges will provide a clearer sense of certainty for investors. Business-led investment is seeing leaders re-evaluate their operations and businesses’ non-core assets, which are likely to be divested to free up resources to go and invest in more profitable, growth areas.

Consolidation, particularly within the mid-market will continue to occur, particularly where businesses have been negatively affected by the economic conditions and “good value” opportunities are identified. Factoring this into the increasing ESG and regulatory requirements which businesses in this sector are trying to tackle, the outlook for activity through to 2025 is a positive one.