A long long time ago, in May of 2007 when the S&P was 46% higher, there were $461 billion in deals sitting on the 500’s table, including 13 private offers worth $255 billion. Monday mornings were for merger announcements and target company prices to jump. But that was then. Since then profits, liquidity, sales, home prices, and stocks have all gone done, while unemployment, risk, uncertainty and fear have gone up. M&A, along with most of the IPO market went into hibernation. But now the environment is warming and there are signs of a thaw.
The weapons of mass M&A are cash and shares, with institutions liking cash and individuals typically preferring stock, since most stock deals are tax deferred. Cash for the S&P industrials are now at an all time high. The cut backs, lack of spending, and desire to build up reserves to see them through the recession has resulted in companies, on aggregate, having over 10% of their market value in cash, with Health Care and Technology having over 15%. Common shares from all those record buybacks that sit in the company’s treasury account, to which companies would love to be able to justify the higher purchase price for, are now worth over 14% of their market value, with the recent market gains adding $300 billion. The props are that when you add the cash and shares together you get a war chest worth over 22% of market value, to which I find nothing matching it in recent history.
The setting for these props is earnings. Sales for the S&P 500 have declined 18% or $860 billion over the last two quarters, but companies have been able to limit the bottom line damage through cost cuttings. The current quarter is expected to be the same. But you can only cut so much and for so long, before you need to increase your top line in order to increase your bottom line. To which there are two ways to increase sales - slowly by building product and customer base, or quickly through M&A.
Given their resources, their need to quickly catch a returning consumer whose loyalty is now is in conflict with price, I believe that M&A will be the choice of many. The question is when will the companies come out and play. The simple answer is when they believe that their product and their business model are stable, and that the recession is behind them. The more realistic answer however is when they think they can add to sales quickly, even at a premium price, and take advantage of higher margins that can quickly increase their bottom line. That should make for a different type of M&A market, and at the very least reduce the use of the dreaded word synergy, since the time schedule to show bottom line results will be shortened.