A healthy stock market and cheap debt have traditionally been two ingredients that helped fueled booms in mergers and acquisitions. The recipe isn’t quite working this year.
Instead, the ingredients may paradoxically be prolonging a lull in transactions, say investment bankers and lawyers, many of whom had predicted a dealmaking comeback in 2013. Higher stock prices, coupled with a shaky recovery, have made some executives wary of overpaying for acquisitions, or selling too cheaply. And some potential targets have tapped cheap credit to win a lifeline and stay independent.
“If I go through my checklist of what needs to be in place to enable M&A to happen, I can put a tick in many of the key boxes,” said Mark Warham, head of mergers and acquisitions for Europe, the Middle East and Africa at Barclays Plc. “Yet so far we haven’t seen a real intensity of deals this year.”
While transactions worldwide reached about $490 billion in the second quarter, up 3 percent from the previous three months, they were down about 10 percent compared with the same period in 2012, according to data compiled by Bloomberg.
Dealmaking in the quarter was dominated by a handful of large transactions, such as SoftBank Corp. (9984)’s sweetened offer to take control of U.S. telecommunications provider Sprint Nextel Corp. (S:US), which has a market value of $21 billion. In Europe Vodafone Group Plc (VOD) agreed to pay about $13.5 billion for German cable provider Kabel Deutschland Holding AG. (KD8)
The volume of transactions is “being supported by fewer, larger deals, rather than a steady flow of smaller transactions, and I expect that will continue,” said Hernan Cristerna, co-head of global M&A at JPMorgan Chase & Co. in London.
In North America, the $208 billion of announced second-quarter takeovers was down 3 percent from the same period a year ago, while dealmaking fell 7.8 percent in Europe to $127 billion and 9.8 percent in Asia to $120 billion, data compiled by Bloomberg show.
Investment banking fees have followed, falling 20 percent in the quarter to $4.5 billion from a year ago, according to Freeman & Co., a New York-based consulting company.
Bankers were optimistic for deals at the start of the year, buoyed by 2012’s 13 percent increase in the Standard & Poor’s 500 Index. Rising stock markets have traditionally been followed by upticks in takeovers as CEOs grow more confident about growth prospects, said Jeff Raich, a co-founder of advisory firm Moelis & Co.
“The equity markets and the deal environment usually correlate more closely than they are right now,” Raich said.
As the S&P 500 doubled during the bull market of October 2002 to October 2007, global M&A almost quadrupled to $4.3 trillion in the final year of the rally from $1.1 trillion in the first, according to data compiled by Bloomberg on completed transactions.
Deals have failed to keep pace during the current advance, which has propelled the S&P 500 to a 137 percent gain since March 2009. Takeovers totaled about $1.8 trillion in the first year of this bull market and have risen to $2.2 trillion during the past year, only a 23 percent increase, data compiled by Bloomberg show.
Some companies have calculated there’s no reason to sell while the market rises, said Barclays’ Warham.
“Shareholders seem to be standing by boards, saying, ‘Don’t sell too cheap,’” he said.
Last month, Borealis Infrastructure Management Inc. abandoned a 5.3 billion pound ($8.1 billion) bid for Severn Trent Plc (SVT) after the U.K. water utility said the price didn’t reflect its true value. Severn Trent’s stock is rallying for a fourth straight year even after plunging 20 percent from 2013’s peak in May.
“The sustained run-up in stock market prices has made it more challenging in many situations for cash buyers like private-equity firms to put together deals that make financial sense,” said Lee Meyerson, head of the M&A group at law firm Simpson Thacher & Bartlett LLP.
At the same time, the buoyant market also pushed some private-equity firms to take their portfolio companies public to get a better valuation than in a sale, said John Eydenberg, co-head of America’s investment banking and head of financial sponsors for Deutsche Bank AG.
Blackstone Group LP took SeaWorld Entertainment Inc. (SEAS:US) public in April after rejecting takeover bids for the theme-park operator, said a person familiar with the matter. The buyout firm expects the $702 million offering to yield better returns over time than a sale, the person said.
“The robust capital markets have created an alternative to M&A for big and small companies,” said Eydenberg.
For target companies wanting to stay independent, low borrowing costs and high demand for corporate bonds means debt is easily available to patch over problems. Sales of speculative-grade bonds, rated below Baa3 by Moody’s Investors Service and lower than BBB- at Standard & Poor’s, have soared 37 percent from the first half of 2012 to $205.5 billion, according to data compiled by Bloomberg.
While borrowing costs have jumped since Federal Reserve Chairman Ben S. Bernanke began signaling in May that policy makers could pare bond purchases if the economy shows sustained improvement, yields on the Bank of America Merrill Lynch U.S. High Yield Index ended June at 7 percent, compared with a 2012 average of 7.5 percent.
With plenty of liquidity, corporations are appeasing investors in ways other than mergers, said Herald Ritch, chief executive officer of Sagent Advisors LLC, a New York advisory firm. U.S. companies had about $1.7 trillion of cash and marketable securities, a record, in the first quarter, according to data compiled by Bloomberg in May on about 2,300 publicly traded stocks.
“You buy your stock,” Ritch said. “You pay big special dividends. You pay off debt. Or you go out and borrow even more so you give your shareholders even more liquidity.”
The recent jumpiness in stock prices isn’t helping create an environment for deals, said Jack MacDonald, co-head of Americas M&A and global head of technology M&A for Bank of America Merrill Lynch.
About $4.2 trillion has been erased from the value of global equities since Bernanke’s May 22 remarks while volatility has risen. The average daily price move for the S&P 500 increased to 0.73 percent in the second quarter from 0.48 percent in the first three months of the year, according to data compiled by Bloomberg.
“Significant moves in the equity markets are generally not conducive to a strong M&A market,” he said.
Still, there are signs of large deals to come in the telecommunications industry, where Verizon Communications Inc. is weighing a buyout of Vodafone’s stake in its Verizon Wireless unit for more than $100 billion, people familiar with the matter have said.
There are also indications that investors are ready to welcome at least some dealmaking. “The market reaction on acquirers’ stock has been quite positive after transactions, which may offer a little bit of encouragement,” said Jonathan Rowley, who heads M&A in Europe, the Middle East, and Africa for UBS AG.
Shares in Nokia Oyj jumped as much as 10 percent in Helsinki today after the smartphone manufacturer agreed to buy Siemens AG’s stake in their networking-gear joint venture for about $2.2 billion. The rise was Nokia’s steepest since January.
That said, a more rapid pace of deals won’t return until confidence returns among corporate executives, said Gregg Lemkau, the global co-head of mergers and acquisitions at Goldman Sachs Group Inc.
“The biggest thing in my mind continues to be a general sentiment of risk aversion at the CEO level and in boardrooms,” said Lemkau, who’s based in London. “People are just anxious about the perceived execution risk.”
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