Is the M&A Market Back? (Part 1)
Last year we wrote an article titled “Is the M&A market back?” In that article, we framed an answer by questioning whether the glass was half full or half empty with the thought that an argument could be made either way. We presented five factors to argue that the glass was half full and another five factors to argue that the glass was half empty.
The five factors that supported the notion of a glass half full were (1) economic growth was in the horizon, (2) stock market rebound (back in the summer of 2009), (3) the 2009 fourth quarter was approaching fast, (4) the 2009 summer doldrums were over and (5) the ongoing United States currency devaluation. On the other hand, the five factors that supported that the glass was half empty were (i) reduced access to the credit markets, (ii) lower valuations, (iii) increased due diligence, (iv) unforgiving pace of market corrections and (v) the 2009 recession.
At the time, we concluded that a return to historical normalcy would occur by the fall of 2010 if expectations of economic growth back then were accurate and the credit markets did thaw. We also speculated that the United States consumer may not lead the world out of a recession, but that consumers from other parts of the world may accomplish the feat, which may lead to increased deal flow in parts outside the United States. Finally, we suggested that the increased deal flow in other parts of the world may become an important barometer to assess the timing of a return to normalcy in the United States M&A market. In this article, we choose to reexamine the question one year later.
Instead of questioning whether the glass is half full or half empty, we would argue that the glass is well on its way to become fuller. The economy, the capital markets and the level of M&A activity are improving but not yet improved. The National Bureau of Economic Research recently announced that the recession ended in June 2009. While the expectations of economic growth back in 2009 were more optimistic than the actual results, economic growth has occurred in the United States albeit stagnant, but more importantly credit markets have begun to thaw. While the credit markets are not as liquid as back in 2006 and 2007, there is strong evidence that leveraged buyouts are back although to a lesser scale.
One big cloud of uncertainty that may taint our position are the persistent rumors of a “double dip” recession. We remain optimistic that a full-blown “double dip” will not happen unless unforeseeable events take place such as a terrorist attack or government behavior that undermines confidence in the economy, but we may take one or two steps back each time we prepare to take three steps forward. While many may argue that the latter has occurred or is in process, we would argue that the government is directing the economy towards a path of persistent low economic growth if not stagnant as this is the path of least resistance – politicians and policymakers fear the magnitude of market dislocations if they allow free market forces to work. While consumers are concerned with their personal savings and debt reduction, the infusion of liquidity into the economy through a multitude of stimulus policies, record deficit spending and a very accommodative Federal Reserve Board are some of the preferred policy choices that by the sheer of their magnitude are likely to keep the economy on the growth side despite their consequences to long term economic growth.
The issuance of debt and the debasing of the United States currency is likely to continue despite predicted gains for the Republican Party (and the Tea Party) in the election of November 2010. Such policies are leading to such persistent low economic growth. While persistent low economic growth is not necessarily optimal, low economic growth is not a scenario that is hostile to M&A although it may be hostile to other notions or goals such as the American dream, reducing joblessness, poverty, inequality or the national debt. On the contrary, low economic growth in a very low interest rate environment provides a fertile ground for consolidation and for strategic buyers to invest in acquisitions.
As we revisit the factors reviewed in our first article, only about a handful are relevant to current circumstances as many of those factors were specific to 2009. For instance, economic growth was in the horizon in 2009, but now is a reality. In the glass half full side, the United States currency devaluation is still ongoing. There is no question that the United States dollar has lost ground against gold, and the People’s Republic of China has announced its intention to appreciate its currency against the U.S. dollar. Further, the United States government has been printing money to finance its operations and programs – a practice that is unthinkable in many parts of the world but that the United States can afford, at least for now, given the position of its currency throughout the world. The continued currency devaluation in combination with the persistent current account deficit is likely to make assets in the United States cheaper and desirable for foreigners to purchase unless there is an unthinkable collapse in the United States currency in the near future.
As we revisit the glass half empty factors, we find as relevant the reduced access to the credit markets, lower valuations and increased due diligence. The unforgiving pace of market corrections has become less relevant as the government seemingly is willing to do whatever it takes so that free market forces do not cause further major dislocations by pumping excess liquidity into the economy and financial system. As to the recession as a factor, the recession has been declared over since June 2009.
The reduced access to the credit markets still plays a role, but data points to increased access to the credit markets this year given the emergence of leveraged buyouts. According to many news outlets, The Australian reported that BHP Billiton’s $45 billion syndicated note facility in regards to its hostile bid for Potash Corporation of Saskatchewan Inc. was oversubscribed. Cerberus Capital Management LP was able to acquire DynCorp International Inc. for about $1.5 billion while supposedly borrowing more than half the purchase price. We worked on a deal that closed in the summer of 2010 which was financed completely through leverage.
About the Authors:
Andrew B. Sherman is a Partner in the Washington, D.C. office of Jones Day, with over 2,400 attorneys worldwide. Mr. Sherman is a recognized international authority on the legal and strategic issues affecting small and growing companies. Mr. Sherman is an Adjunct Professor in the Masters of Business Administration (MBA) program at the University of Maryland and Georgetown University where he has taught courses on business growth, capital formation and entrepreneurship for over twenty-three (23) years. Mr. Sherman is the author of seventeen (17) books on the legal and strategic aspects of business growth and capital formation. His eighteenth (18th) book, Road Rules Be the Truck. Not the Squirrel. (http://www.bethetruck.com) is an inspirational book which was published in the Fall of 2008. Mr. Sherman can be reached at 202-879-3686 or e-mail ajsherman@jonesday.com.
Alejandro Badillo is an Associate in the Washington, D.C. office of Jones Day. His practice encompasses many transactional areas, including mergers and acquisitions, securities offerings and compliance, venture capital transactions, and private equity. In the area of mergers and acquisitions, he has represented buyers and sellers in asset purchase, stock purchase, and merger transactions. Mr. Badillo can be reached at 202-879-3650 or e-mail abadillo@jonesday.com.
Leave a Reply