Current Trends in M&A
Mergers and acquisitions tend to run in predictable patterns. In the early stages of the M&A market, mega deals are generally transactions that occur as a result of consolidation in the market in which the company competes. Valuations are initially reasonable, with the buyer’s objective of increased market share or dominance being the driving force. In 2014-2015 mega transactions in individual deal value were in the Pharmaceuticals and Technology markets. The outlook for 2015 will see a continuation of large transactions in these areas, as well as in the Consumer Products market. 2016 may see telecommunications, energy and consumer companies making up 45% of the transactions. 2015 and 2016 will continue to reflect the positive influences of historically low interest rates, and the uncertainty associated with another presidential election.
Prior M&A markets have been led by large cap transactions, followed by a period of focus on the middle market. Ernst & Young recently reported that transactions have significantly shifted toward the middle market deal value size. In 2014-2015 buyers paid record valuations for takeover targets. Global M&A deal value in the first half of 2015 reached an eight year high, second only to the all-time record set in 2007. The current economic climate is strong for M&A deals. Companies have large cash balances, and the cost to borrow money is at very low interest rates. However, 2016 -2017 will be negatively impacted by lower valuations and increasing interest rates.
Even with high multiples on the seller’s business, buyers currently are able to secure debt at well over five times Earnings before Interest, Taxes, Depreciation and Amortization (EBITDA). Still, the Board of the acquirer will focus on deal valuation. And, the strength of the CEO and Board’s business confidence, regulatory pressures, economic and political patterns, growth in Gross Domestic Product (GDP), cost of capital and equity market stability are all factors in deal activity levels.
In the past several years companies have experienced weak sales growth. This has led to a focus on Mergers and Acquisitions as a means to re-engineer that growth. The increase in middle market deals indicates that acquirers are willing to invest their cash in companies which could generate increased sales and profits in the long-term. Paying for the deal in cash has the positive aspect of not incurring debt or paying with overvalued company stock as occurred in 2006-2007. In the first-half of 2015 this low cost financing and the search for growth propelled U.S. M&A activity up 60% over the same period the prior year, the strongest since 1980. Global M&A rose 38% compared to one year ago, the highest since 2007, according to Thomson Reuters’ data. And, the share price of acquiring company has gone up 66% of the time after a deal was announced.
On the converse side companies are proactively optimizing their business portfolios. Based on major foreign and U.S. Equity Market indices, companies will feel pressure to deliver on growth expectations in both their stock price and their price/earnings multiples. J.P. Morgan Chase expects this to increase deal activity for spin-offs and divestitures in 2015 and beyond.
References: J.P. Morgan Chase &Co 2015
Financial Times June 29, 2015
Forbes January 13, 2015
Money, Investing Guide June 28, 2015