What Is a Roll-Up Merger?

A roll-up merger is the purchase of two or more competitors in an industry with the intention of combining them into one larger company. Private equity companies are frequently behind such ventures.

The roll-up merger combines multiple small companies into a single larger entity that is better positioned for economies of scale. In some cases, it reduces direct competition. In others, the goal is to create a more efficient full-service business from a number of companies with complementary capabilities, For example, an oil exploration company might be combined with a drilling company and a refiner.

Understanding the Roll-Up Merger

Roll-ups are part of the consolidation process that commonly occurs as a market sector matures. Combined companies can produce more products and services than smaller independent players. Combined companies can also expand geographic coverage, lower production costs, and gain greater name recognition.

Key Takeaways

  • A market that has many small competitors is said to be "fragmented."
  • Using the roll-up merger strategy, private equity buys up several players to combine them into one dominant player.
  • Larger companies have the edge due to economies of scale and greater name recognition.

As an additional incentive, larger companies are usually valued at a higher multiple of earnings than smaller companies. A private equity firm that has bought and integrated a number of smaller businesses can make a higher profit when they sell the rolled-up firm or create an initial public offering (IPO).

When a roll-up merger is executed, owners of the individual companies receive cash and shares in exchange for their stakes. The companies are then transferred to a holding company.

Keys to Success for Roll-Up Mergers

Roll-up mergers can be difficult to pull off. Combining several businesses with different cultures, infrastructures, and customer bases is a complicated job. If not done properly, the post-merger entity may never achieve the desired efficiencies, scale, or profitability.

Generally, successful roll-up mergers share these traits:

  • They target lucrative industries that lack a dominant player.
  • The consolidators have a proven process that creates value.
  • The consolidators have a proven game plan for identifying targets, evaluating them, and integrating them.

The Roll-Up Merger Scenario

The reality is that large companies tend to dominate their markets. Their breadth of product offerings, economies of scale, and brand awareness give them the edge. When a marketplace lacks big players, it is said to be "fragmented."

Fragmentation is an opportunity for a private equity company or another group of investors to consolidate the existing smaller businesses in a roll-up merger. Redundancies are eliminated, productivity is increased, and higher profits are generated.

Quest diagnostics now dominates the medical testing market, which was once fragmented into many companies serving specific regions or diagnostic specialties.

Roll-ups are big business. Investors have poured more than $30 billion of capital into roll-ups and funds dedicated to identifying roll-ups, according to the website strategy+business.

Examples of Roll-Up Mergers

A classic example of a roll-up merger was Waste Management Inc., a company that was formed in 1968 to combine more than 100 smaller local trash haulers. It went public in 1971 and by 1982 was the largest waste hauler in the United States.

A more recent example is Quest Diagnostics Inc., which today provides clinical testing services for about half of the physicians and hospitals in the U.S. The business of medical testing was once highly fragmented, both by geography and by medical specialty. Quest grew slowly over many years until, in 2011, it purchased Athena Diagnostics, which it described as "an esoteric laboratory specializing in genetic testing for neurological disorders," for $740 million.