A Sweet Spot

A three minute read on one of our sweet spots – kitchen cabinetry; enjoy! Over several decades many PEGs and strategics have invested in or acquired multiple cabinetry companies of all sizes and geographies consolidating or divesting part or all their positions in the segment. Some justified their thesis by rolling up several national or regional companies and leveraging their big box retail partnerships (during the days when 68% of homeowners would shop at a home center, yet 24% would purchase there.). I worked for one of these strategics during the financial engineering days on a number of business cases and eventually leading a portfolio company. Today, the cabinetry landscape faces many of the same issues most labor intensive industries face – declining and diminishing labor pools, technology innovations including AI, pressures to meet or beat the streets’ expectations of revenue, share price and another turn or two before exit.

Unfortunately, the public is unaware, oblivious and frankly doesn’t care about changes in operation or go to market with and around any of these acquisitions. They simply want a kitchen that is functional and looks pretty. For a public who has access to anything via their smartphones in milliseconds, the dumbing down is beyond apparent nowadays. The purchasing power of today’s market is only interested in the fit and feel, utility and tech convenience that has overrun generations who were more interested with image, lifestyle themes and functional performance.  While all generations agree with ability to entertain and to minimize barriers of indoors and outdoors, the gap is ever widening.

With generational labor forces residing in smaller rural communities dotted across the country, new technology gives way sadly to the tribal knowledge that will be lost as boomer workers retire. The eventuality of innovative AI, robotics and Kaizen are overcoming human variances as we speak. Fewer and fewer high school and college graduates have any interest or desire to have sawdust running through their veins as their predecessors did. For example, the evolution of automotive and aerospace technology and talent are reducing and likely eliminating the days of halogen headlights on a sanding bench occupied by female operators ‘who have better feel for grain than a man does.’

COVID helped PEGs with more better opportunities as the overhang of dry powder increased. “Money must be put to work, but it’s not going to be put to work foolishly,” something that still echoes in my ears from a former mentor. The multi-brand conglomerates will always be around with the typical divestiture or acquisition much in the way NFL teams handle trade deadlines and cap space. I will push back that the Fortune Brands, Cabinetworks and others of today have better professional management teams at the operating level than in my day. If we weren’t returning 18-20% quarterly, we were told our parents were never married; so we didn’t miss!

Today’s PEG mandate has tempered a bit in the cabinet industry with the socioeconomic landscape and outlook on the horizon of affordability concerns tied to the housing market. However, the second and third tiers of cabinet manufacturers with strong regional presence are dead in the sights of PEGs looking to increase geographical footprint like buzzards circling the weekend buck kill in the Blue Ridge. Adding to this perspective is the age of the founders of several large privately-held manufacturers even as the second and third generations take more responsibility for long run strategic direction. They will exit; whether that’s on their terms or a PEGs only their egos know this answer.

The statistical data continues to support the attractiveness of the industry even as the clouds cover the next 18-24 months*. My Magic 8 Ball routinely returns, Ask again later, or Concentrate and ask again. $158B was spent on repair and remodeling just five years ago. Over 90% of PEGs use inorganic growth through acquisition to create value from their portfolio companies. Financial engineering died decades ago. Today’s buyer-led M&A strategy is integration led due diligence (ILDD) as the formulas are so dialed in to the expected MOIC and IRR (multiple on invested capital and internal rate of return) as long as the process is followed…then again, people are people. I remember an investment meeting where I was blasted by a senior as I recommended ILDD to minimize time drag, integration costs and scope creep; revenge was sweet nonetheless (middle finger salute).

Many of these regionally focused businesses from $40MM to $400MM have grown from what was partially-led professional management 20 years ago to a fully complemented executive group today. While many of the issues from then still haunt today’s operators – raw materials, labor and equipment – the near term future can be quite exciting through innovation. The old ways will evolve. Some of plant population will move on voluntarily and involuntarily not necessarily performance based either. Some of the sales population will move on in the same manner as the market demands new ways of customer and end user acquisition.

We know technology will certainly accelerate the industry’s growth, but it’s more out of survival before it becomes thriving. Over 50% of US financial executives surveyed acknowledge investments in technology will improve their companies over the next several years. What was once a pipe dream of innovation will become core competency and no longer the ticket to play, but to stay. It won’t be long before designing your new kitchen, bath or outdoor entertainment center will be a few clicks on your smartphone streamlining the most time consuming element of a new kitchen project.

Sources:  various articles, studies and surveys Harvard Business Review, Boston Consulting Group, Kitchen Cabinet Manufacturers Association, Harvard Joint Center for Housing Studies, et al