2016 M&A: reflections on an underwhelming first half
September 2016 | FEATURE | MERGERS & ACQUISITIONS
Financier Worldwide Magazine
Ensconced as we are in the third quarter of 2016, it is an ideal time to cast an eye over the previous quarters of the year and highlight some of the trends and developments to have emerged. So far, M&A activity has been relatively strong, albeit not at the levels seen during the previous two years. According to figures compiled by Dealogic for its ‘Global M&A Review First Half 2016’ report, deal value in the first half of 2016 fell 18 percent – down from $2.09 trillion to $1.71 trillion. Although still strong, this data does represent a significant slowdown in activity, with a high number of abandoned transactions – such as the $160bn Pfizer/Allergan deal – playing a part in this drop.
In a further analysis of this year’s M&A environment, Thomson Reuters, in its ‘Mergers and Acquisitions Review’, states that 48 deals with a value greater than $5bn were announced during 1H 2016 – their combined value down 33 percent compared to 1H 2015. It also notes that the 21,087 global deals announced during 1H 2016 constituted a 5 percent year-over-year decrease.
“It is important to keep in mind that 2015 was a record year with a large number of US$50bn-plus deals, making it difficult for 2016 to keep up this kind of pace,” states Kirsty Wilson, global research editor at Mergermarket. “However, it is still the lowest 1H period since 2009. Strong levels of M&A are seen in times of confidence and certainty. In light of Brexit and the upcoming US presidential election, dealmakers are being cautious about where they invest until they see the markets rebalance.”
Mergermarket’s own analysis of 2016 M&A activity, ‘Global and regional M&A: H1 2016’, also highlights the increasing pressure that China is placing on US and European acquirers in terms of the auction process, in that it is the Chinese government which selects the company it wants to see bidding to acquire a non-Asian firm. That said, the powers that be in China have intimated that they may relax these regulations and allow multiple bidders should the foreign company involved be worth in excess of US$2bn.
Furthermore, although the top M&A deal so far in 2016 has been the $48bn acquisition of Swiss company Syngenta AG by state-owned China National Chemical Corp (ChemChina), also the largest ever cross-border transaction made by a Chinese acquirer, this mega deal has done little to offset the economic slowdown that is continuing to pervade China as a whole.
Overall though, given the extent of the dip in global M&A, it is unsurprising that questions are being asked about the factors behind the decline and, more pertinently, what this may mean for the health of the M&A market as we move toward the final months of 2016, and beyond.
M&A in 2016
The drop off in M&A activity seen so far this year has been attributed to a number of elements – Brexit, the US election and the Chinese slowdown among them. However, there are other significant factors which continue to impact the M&A market, including volatile oil and commodity prices (leading to uncertainties in valuations), European immigration and a substantial increase in regulatory scrutiny. According to Jonathan Russo, M&A practice co-leader at Pillsbury Winthrop Shaw Pittman LLP, the net effect of this wide range of circumstances is that some companies are now taking a ‘wait-and-see’ approach. “The volatility of global markets, increased regulatory scrutiny and political uncertainty has negatively impacted mega-cap deals,” he says. “In the US, volatility in oil prices and other commodities has led to uncertainties in valuations and the unpredictability of the outcome of the general election has caused some companies to hit the pause button on large M&A deals.”
For Dr Markus Nauheim, a partner at Gibson, Dunn & Crutcher LLP, the 2016 M&A landscape has been marked by uncertainty and a general lack of confidence, with economic slowdowns enveloping China, Russia and Brazil and the continued sovereign debt crisis in certain EU Member States causing many investors to “shift down a gear or two” at the beginning of 2016. “At the end of last year, many experts had expected the strong M&A activity of 2015 to continue,” recalls Dr Nauheim. “The consistent growth and steady recovery, for example in the US, coupled with the strong US dollar, as well as the accumulation of large cash reserves by both corporate and financial investors in various parts of the world, were predicted to result in more significant cross-border transactions. However, reality has caught up with this bullish outlook and the deal market has developed differently. This trend was reinforced by many investors pulling the brakes – at least for the time being – after Great Britain had voted in favour of the Brexit, the impact of which is still unclear, and which put large parts of the M&A community into a state of shock.” To be sure, the slowdown of China’s economic growth, European immigration and the extensive fallout from the UK’s decision to exit the European Union are all factors that will continue to impact the M&A market.
Much of the downturn in M&A this year is being laid at the door of abandoned deals, some seemingly at the eleventh hour. Moreover, many analysts are even suggesting that 2016 could turn out to be a record year for broken deals – with an increase in regulatory scrutiny thought to be scuppering many large scale transactions.
As Dr Nauheim points out, deals get aborted for a number of reasons and each case is different. “One of the major reasons why deals did not go through over the past couple of years certainly was the diverging price expectations and – in public takeover situations – the inability to reach the required threshold of shareholders in favour of the takeover,” he says. “Other obstacles such as merger clearance, a tightening of the tax inversion rules in the US, lack of financing and market volatility may also play a role in individual cases. Due to the continued geopolitical turmoil and increased political instability throughout the world, however, we should expect to see that governments will use further scrutiny when it comes to major transactions.”
One example of this uptick in regulatory scrutiny is the takeover of German robotics specialist KUKA by Chinese conglomerate Midea for approximately €3.8bn. In this instance, the German Federal Ministry of Economics and Technology is said to have taken a closer look at the transaction in accordance with foreign trade and payments rules – rules which have been tightened in recent years and, in a similar fashion to that of the Committee on Foreign Investment in the United States, gives the government the right to prohibit a transaction if public order or security is believed to be affected.
Regulatory issues have had an impact elsewhere, too. “Antitrust opposition caused the termination of the $28bn Halliburton/Baker Hughes deal, as well as the $6.8bn Staples/Office Depot deal,” says Mr Russo. “The US Treasury’s new rules aimed at ‘inversion’ transactions impacted the $160bn merger of Pfizer/Allergan. On the other hand, market volatility played a part in the termination of the $33bn Energy Transfer/Williams Companies merger due to a decline in asset values which impacted a tax-free exchange condition of the transaction.”
In addition to the potential relaxing of regulations surrounding M&A involving Chinese companies, another key trend to emerge in 1H 2016 is the revival of activity by German companies on both the buy and sell-side. “As a buyer, the value of German outbound M&A is already 90.7 percent higher than the whole of 2015, and the fourth highest annual total on record,” says Ms Wilson. “As a seller, Germany’s expertise is in the industrial & chemicals sector – including automotive and manufacturing assets – which has attracted a high level of interest from Chinese firms looking for high quality assets.”
In terms of trends pertaining to sectors and industries, M&A activity in the technology arena was particularly high, with 1H 2016 seeing a total volume of $294.8bn –- the second highest 1H volume on record, trailing only the $304.6bn 1H volume seen in 2000. Conversely, the telecoms sector saw the biggest year-on-year drop among the top 10 sectors in 1H M&A deal volume, down some 70 percent from the $200.5bn seen in 1H 2015, to $60.7bn.
It appears to be too early to tell what strategies dealmakers may adopt to recharge their M&A mojo in 2017 and beyond. “There is a lot of uncertainty about Brexit and firms need to balance the pros and cons of buying a cheaper UK company, because of the lower value of Sterling, with forecasts looking into how the company will be affected by negotiations. This rebalancing act will overflow into 2017,” says Ms Wilson. “A refocusing of strategies in regards to UK activity could be the result of Brexit, as management teams put deals on hold or openly announce they will focus on a new territory instead. Technology will continue to be a focus for companies and this will span across industries such as green-tech, FinTech, technology in pharma, and so on.”
Dr Nauheim believes successful dealmakers will use any environment to identify opportunities and make profitable deals, with a number of factors lying in wait to benefit M&A activity toward the end of 2016 and into 2017. “Cash will be available in abundance, interest rates will likely remain low, prices seem to go down and there will be more certainty as the US presidential elections will have been completed and many banks and companies will have had six months to get accustomed to the idea of a Brexit,” he says.
A subdued outlook
In a time of uncertainty and insecurity, with issues such as the outcome of the US presidential election and the fallout from Brexit among the top risks facing the world, the expectation is that M&A activity during the remainder of 2016 will be subdued.
However, in a recent interview with news channel CNBC, Steve Krouskos, global vice chair of transaction advisory services at EY, struck a more positive note by highlighting three primary factors which he believes will continue to drive a very strong M&A market: (i) the search for growth continuing to be high on the agenda of every CEO; (ii) the impact that digital disruption is having on deal activity; and (iii) the extent to which companies are embracing globalisation.
Looking beyond this year, M&A practitioners are viewing the dealmaking landscape in a more positive light, with many confident that activity will be reinvigorated and a return to the days of record-breaking M&A.
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