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The Automotive Revolution: Can Private Equity Find a Role to Play?

February 10, 2021

Barely a day passes without reading about a new development in the transition towards the electrification of vehicles. In the UK, all new cars and vans sold in 2030 will need to be hybrid or fully electric. Norway has become the first country in the world where the sale of electric cars has overtaken those powered by petrol, diesel and hybrid engines. In 2020, sales of fully electric and hybrid vehicles in Europe grew by 137% to reach 1.4 million vehicles.

Market Disruption is Underway

Jean-Marc Gales has worked at the top of some of Europe’s largest OEMs, including Mercedes-Benz where he was Global Head of Sales, and PSA where he ran Peugeot-Citroen Automotive globally. His most recent role was as CEO of Lotus Cars, which he ran from 2014 to 2018, turning the business around from loss-making to achieve a successful sale to the Chinese OEM giant Geely. He has recently joined the board of private equity backed EuroGroup, an Italian supplier of components for electric motors.

Jean-Marc is convinced about the shift we are observing: “We are at the start of a disruption which will take 10 years. Some say longer, but I think it will happen quickly. By 2030, we will be close to a fully electrical society, with partly autonomous cars also gaining ground. Decarbonised mobility is going to dominate from now on, and there will be significant changes in consumer behaviour. The last thing my daughter wants, who is at university, is to buy a car. She prefers to use electric scooters and public transport.”

Carl-Peter Forster has spent all his career in the automotive industry, and has had leadership roles at BMW, GM Europe, Saab and Tata Motors / Jaguar Land Rover. Since going plural, he has sat on the boards of Volvo Cars, Geely, LEVC and Cosworth, and is currently a Director of Gordon Murray Design.

Carl-Peter is excited about the opportunity in batteries and the raw materials they require. “There needs to be a huge increase in production capacity, which is why it has become such a political issue. By 2025, we will need 30 times the capacity of Tesla’s giga factories. Batteries are very capital intensive, however the demand is there and so the risk is limited. Equally, demand for lithium is going to explode as well and we will need a huge investment in mining capacity. Both of these areas are obvious places to invest.”

Charging Points Roll Out

Electrification requires massive investment in electric charging points, and there is no doubt that all European countries need to speed up the roll-out and upgrade the electricity infrastructure. Shell has recently bought the UK’s largest public electric vehicle charge-point owner Ubitricity, as it positions itself for a shift away from fossil fuel engines. Ubitricity, founded in Berlin, Germany, now has more than 2,700 charge points in the UK and more than 13% of the market. Their charge points are integrated into street furniture such as lamp posts and bollards so people can charge when they are away from home, or do not have a driveway where they can charge overnight. Shell and the other large fuel retailers are also rapidly installing charging points on their forecourts. “The oil companies make a substantial amount of their money in the retail shops, and so are perfectly set up to serve motorists who are waiting whilst their car is charging,” comments Jean-Marc.

Electrification is of course only one of the trends within the broader mobility ecosystem, and there is a huge amount of investment into autonomous vehicles, connectivity and shared mobility, mainly by the tech giants and venture capital funded start-ups.

Today’s Automotive Trends

 

 

 

 

 

 

 

 

 

*Image Source: McKinsey Center for Future Mobility

Private Equity Investment in Automotive

Traditionally, the majority of private equity funds have avoided exposure to the automotive sector. PE has a strong preference for businesses that do not have huge capex requirements, and which benefit from secular growth trends that are not too highly correlated with the overall economy. On both those points, the automotive sector tends not to score highly. The other reason for the limited number of PE investments in the automotive sector has been the highly consolidated nature of the industry, as economies of scale are required in order to generate sufficient profits and returns on investment.

Despite this, there has always been a steady trickle of automotive LBOs, but generally with niche suppliers of automotive components. Some of the best performing LBOs have been automotive related, but more on the services side rather than manufacturing. Companies like the AA, BCA (used vehicle marketplace) and Belron (windscreen repair) have all been hugely successful investments for PE.

Selected recent PE investments in Automotive

 

 

 

 

 

 

 

 

Long Lead-Times in New Technology

One of the issues that private equity has historically faced in automotive is the exceptionally long lead-times between developing a new technology and the time it takes to reach commercialisation. Adam Robson has spent a large part of his career in the automotive industry, and has worked for both large tier 1 suppliers as well as at the smaller end of the scale, where he currently chairs two private equity backed businesses supplying specialist components for high performance cars.

“ABS brakes were first launched on pick-up trucks, and it took 25 years before they became a mainstream safety feature on passenger cars,” Adam comments. “If we talk about radars for cars, they are just beginning to enter the mainstream market with the development of autonomous vehicles, but their development started over 25 years ago.”

The autonomous space is however far from mature, as Carl-Peter points out: “It is very tricky to pick the winners and so this is still very much an area for venture capitalists. Luminar which is developing sensors for autonomous vehicles is worth over $10 billion, but it is still a start-up without revenues.”

Future Opportunities for Private Equity

As the industry is adapting their industrial footprint to electrification, there will undoubtedly be legacy assets which will be sold off by the big automotive suppliers. All the major tier 1 players such as Bosch, Valeo, Continental are reviewing their portfolios, and this will lead to the sale of business lines deemed as mature or in slow decline. “Although PE takes a look, they often attract a lot of interest from China who can take out costs and relocate production,” says Jean-Marc.

Adam is convinced that the main opportunities for private equity, as opposed to venture capital who can afford to gamble on radically new technologies, lies in accessories and to an extent in the aftermarket and services. “The aftermarket, where margins are much higher, still offers very attractive opportunities if you can find willing sellers, which can be hard as they are often highly cash generative. But if you go further down the chain below the large tier 1 suppliers, you can find profitable companies producing style-related or infotainment accessories. They can be added more flexibly to the car throughout their life cycle and on shorter development cycles,” states Adam.

Jean-Marc agrees that parts of the aftermarket remain attractive today: “Nowadays, modern cars are so reliable, it is no longer necessary to change every 3 or 5 years, which explains why the used car segment is booming. Owners are driving older vehicles, and they do not want to service their cars at Mercedes-Benz or BMW garages, and so lower cost independent chains like Kwikfit and Midas have prospered. However, for investors, aftermarket valuations are very high, growth is single digit at best, and you need to squeeze costs in order to make a good return. A more promising segment may be recycling, as petrol and diesel fuelled cars are phased out and encouraged off the road by governments.”

There is a broad consensus that electric vehicles will have a big impact on the aftermarket. Firstly, they will need less servicing, and less replacement parts. “London taxis used to need new brake pads every 25,000 miles, but the new electric cab only needs new ones every 80,000 miles,” points out Carl-Peter. He also expects there to be a profound shake-up in the way that new cars are sold. “Car dealerships will need to change their model, as increasingly customers will have a direct relationship with the OEM. The era of the huge opulent car showroom is behind us.”

But Jean-Marc has no doubt where he would focus his attention as an investor. “The decarbonised mobility market is growing at 30% a year, and by 2030 will generate over $300bn annually on the OEM and supplier side, and over $100bn in services. It is difficult not to make money in this very dynamic and exciting area. Whether it be companies supplying smart battery management systems, or innovative shared mobility companies allowing people to avoid purchasing their own car, there is so much opportunity out there.”

Finally, what about Tesla and its $800bn market capitalisation, more than all other automotive OEMs combined. “No-one can rationally explain the share price,” comments Carl-Peter, “but Elon Musk is a magician marketeer who has built a leading brand and has consistently delivered against expectations. However, Volkswagen and the other major OEMs are fighting back.”

There is still uncertainty over the future of mobility, but it is absolutely clear that electric vehicles are transforming the automotive industry and there will be exciting investment opportunities along the way.

 

William Fage
Partner, Industrials & Business Services
WF@draxexecutive.com

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