One of the primary cures for poor returns is consolidation, which is either driven by mergers and acquisition activity or by firms leaving the industry. By increasing the average size of firms within an industry, consolidation allows them to exploit economies of scale. This may improve the bargaining power of a business with suppliers and customers, while economies of scale in production reduce fixed costs as a percentage of sales. These forces have worked to great effect in the European paper industry over the last decade. The few firms that are left in the industry--with their vast plants and highly automated machinery--now spend a great deal of time in discussions with competition regulators, something which we regard from an investment perspective as a healthy development. 'Pricing discipline', the corporately correct euphemism for oligopolistic practices, is a term that always gives us a warm feeling whenever it crops up in our discussions with company managements...................
The above was written in June 2002, and was in regards to a discussion about the stocks of European technology and telecom companies. Today, a similar case may be made for consolidation among Australian mining and energy services companies. At Boyles, we are finally starting to see this among some of the micro-cap stocks we've been watching, and of which we have now begun to acquire a few shares (still too early for me to reveal names here). Among the bigger firms, Brookfield Asset Management and Bain Capital are among those that have recently begun to enter the space, with Brookfield specifically mentioning a strategic partnership to pursue industry consolidation.