US M&A market proves a record 2014 was no one-off
In 2014, US dealmakers celebrated a long-overdue comeback, and the positive momentum continued into 2015. In the first six months of the year, the US M&A market posted its strongest first-half performance since the downturn.
There were US$753.3 billion worth of deals secured in H1 2015, up from US$598 billion in H1 2014, putting the market on track to deliver its best year since its last peak in 2007.
Strong macroeconomic fundamentals have supported this surge. According to the World Bank, the US economy grew by 2.4 percent in 2014 and has grown for the last five years. Stock markets are up too, with the S&P 500 rising by more than 12.5 percent over the last 18 months. Unemployment fell to 5.3 percent, according to the US Department of Labor, the lowest since 2009. And at the beginning of 2015, the University of Michigan’s consumer confidence index was at an 11-year high.
Sustained low interest rates have ensured that financing is readily available; US loan issuance came in at US$1.1 trillion in H1 2015, representing 52 percent of global issuance according to Thomson Reuters.
Meanwhile, corporates and PE firms are sitting on record amounts of cash. According to consultancy Factset, non-financial US corporates have US$1.4 trillion at their disposal—a record high—while Preqin estimates that buyout firms have US$1.3 trillion.
Boards and investors are eager to deploy this capital. A survey of more than 100 US CEOs by PricewaterhouseCoopers showed that more than half expect to complete a domestic acquisition in 2015. Research by Bank of America Merrill Lynch, which included a survey of 234 fund managers with US$653 billion in assets under management, found that more than two-thirds believed companies should be using profits to grow, rather than just paying out dividends and conducting share buybacks.
The surge in megadeals has added fuel to market confidence. And, in some cases, megadeals change the competitive landscape, causing players across an industry to respond with their own transactions, as has happened in the healthcare sector.
Boards are using cash to do deals that will further their strategic aims, protect market positions and pursue growth. The Charter/Time Warner transaction, for example, will enable the two companies to provide an expanded service offering, reach more customers, reduce costs and create a business at the forefront of technological developments.
“The stock market has rewarded acquirers much more than in the past. It appears to have taken a view that strong acquirers can improve their business by getting bigger and taking advantage of the things that come with scale like synergies, access to other markets and strength with suppliers,” says White & Case partner John Reiss. “It’s a booming M&A market because we have booming valuations. Valuations are high because there is a strong stock market, which gives people who pay in stock more currency and rewards acquisitions.”
US M&A markets are still strong, but the question now is how long can the current level of activity be sustained.
It’s a booming M&A market because we have booming valuations. Valuations are high because there is a strong stock market.
Valuations heading north
High deal values suggest that prices are at risk of becoming frothy. In the first half of 2015, median EBITDA multiples for US deals stood at 11.2, up from a median of 10.4 during 2014. This could explain why deal volumes have remained flat.
A new hope?
Although the wider macroeconomic environment is relatively stable, given recent stock market instability the possibility of headwinds in 2016 could put a brake on deal activity. US interest rates are expected to climb in 2016, which will cause the cost of financing to increase and could cool appetites for transactions. Political instability in places such as Ukraine and the Middle East could also affect confidence, even though it has not so far. China’s difficulties and the impact of these on markets around the world have also introduced a degree of uncertainty in valuations.
John Reiss, Global Head of M&A, White & Case
“With recent volatility we could see buyers get nervous, especially those buyers whose acquisition currency is tied to the stock market. We could see a scenario where there is a hiccup in public company activity,” Reiss says. “Volatility could put a significant damper on activity, as could falling stock prices.”
Despite these risks and climbing valuations, at present the US M&A market remains strong and on track for a record year.
▪ US deal values at record half-year high ▪ Deal values were up by more than a quarter compared with H1 2014 ▪ Growing economy, low-interest environment, record cash balances and high stock market valuations continue to foster thriving M&A environment ▪ Inbound investment is rising ▪ India ranks as a top 10 inbound bidder for the first time since 2012 ▪ Japanese inbound investment value already higher than whole of 2013 ▪ Megadeal mania continues with 32 deals in H1 2015
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Against the favorable backdrop in the United States, H1 2015 inbound value rose by 15 percent to US$163 billion.
Interest from the United Kingdom was particularly strong in H1 2015, with 60 deals worth US$17.7 billion, making it the second highest inbound bidder by volume.
Another key investor is Japan. By value, the country is second only to Canada in H1 and Japan’s total spend of US$18.7 billion is higher than its entire 2013 total. Japanese deal volumes are also higher in H1, with 41 deals, compared to 29 in H1 2014.
Japanese corporates have cash to deploy and are eager to buy technology from abroad that supports their strategic objectives. In February, Japan’s Asahi Kasei paid US$2.2 billion for the energy storage business of US group Polypore. The deal was driven by Asahi Kasei’s strategy of strengthening its business globally and expanding its technology in the area of batteries and energy storage materials.
Despite China’s stock market difficulties, it still ranked as the fourth most active acquirer into the United States in H1 2015. China has relaxed foreign exchange controls, encouraging cross-border investment, and investors have been eager to acquire successful western brands that can be rolled out in their home market. (See “CFIUS reality check” for insights for Chinese investors about navigating US national security reviews.)
India too has forced its way onto the top 10 buyers table (with ten deals) for the first time since 2012. One standout deal was the acquisition by Lupin, India’s fourth-largest pharmaceutical company, of US group Gavis Pharmaceuticals and affiliate Novel Laboratories for US$800 million. This was the largest outbound investment by an Indian pharmaceutical firm on record.
Ongoing concerns around Greece’s future within the EU and instability in the Middle East and Ukraine have made the United States the most attractive and stable jurisdiction for foreign investors.
The deal values generated in H1 2015 reflected the outsized influence of megadeals. Transactions such as Anthem’s US$54.2 billion agreement to acquire Cigna, Charter and Time Warner’s US$55 billion deal, and the US$50 billion Heinz/Kraft merger, have ensured that deal values continue to push to near-record levels. If these megadeals are stripped out, overall deal figures are less impressive, and the M&A recovery looks more fragile.
White & Case partner Mort Pierce says that while pharmaceutical companies may pause for breath after a run of megadeals, the strategic challenges facing the industry mean that M&A is likely to be sustained. “Pharmaceutical companies are always pushing to become larger so they conduct their business more efficiently. Consolidation brings down costs and makes it easier to conduct research.”
In TMT, meanwhile, the increasing use of tablets and smartphones to consume content means that companies will still want to consolidate, although there are fewer targets, and regulators are watching tie-ups closely.
“So many people are using wireless devices to watch content, and companies need spectrum and scale to deliver that. M&A will still be more important, but there are not too many more deals out there,” says White & Case partner Dan Dufner.
Deal volumes dropped to 2,215 in H1 2015 from 2,602 in H1 2014. Flat volumes suggest that while corporates have cash to deploy, there is still a degree of caution, with acquirers analyzing deal rationales carefully and investing large sums, but on high-quality targets.