What’s happening in the M&A markets?
From fears about Brexit to the prospect of global trade wars, many might assume that dealmakers would be cautiously biding their time. Far from it.
The first quarter of this year saw UK M&A activity hit its highest level in over a decade, with inbound investment leading the way. This contributed to a very healthy looking first half of the year, with Merger Market’s H1 2018 figures showing a 57.8% increase in UK M&A activity compared to H1 2017.
While the headlines tend to focus on mega deals like Comcast’s recent £30bn bid for Sky and so-called mega trends like digital disruption, the reality is that it’s a busy time for most sectors and most sizes of business.
That’s certainly our experience at Shaw & Co. Since advising on the trade sale of Bristol-based brand Pukka Herbs to Unilever twelve months ago, we’ve been supporting a number of deals, including the £46.7m sale of VoucherCloud to Groupon earlier this year. And there’s no signs of any let up with a further significant M&A transaction advised by Shaw & Co to be announced to the stock market next week.
Key trends and drivers
So, what is driving such robust deal activity at a time when the word ‘uncertainty’ seems to precede any phrase about the economic or political outlook? Firstly, the cost of raising funds for acquisitions remains low. Despite expectations that interest rates would rise sharply, they are still only marginally above their post-financial crisis lows. Last month, the Bank of England raised interest rates for only the second time in a decade and the current rate stands at just 0.75%. Even in the US, which is further ahead in the cycle, rates currently stand at 2.0%.
But it’s not just the cost of lending that’s crucial to M&A activity, it’s also the availability. Ever since the financial crisis, bank lending has been constrained, but that vacuum has been filled by a surge in alternative or non-bank lending. According to the DC Advisory MidMarket Monitor, the percentage of non-bank lending in mid-market deals rose from 17% to 46% in a three-year period following the financial crisis. This is driven, in part, by those low interest rates. They mean that pension funds and the like are looking for new ways to generate yield, so stepping into the space left by retreating bank lenders offers a perfect opportunity. This subject is covered in more detail in our blog on the debt markets, but the key takeaway is that relatively cheap and readily available capital is powerful fuel for M&A. Add to this the fact that private equity houses have plenty of dry powder and that many corporates have built up substantial cash balances, then the door is clearly and firmly open for both trade and PE deals.
The bigger picture
There are also a number of trends at play. Although these could easily (and frequently do) fill many pages I’ll try to keep it simple. In some industries, such as consumer goods, companies are combatting a low growth outlook through convergence. By acquiring rivals they hope to build scale and reduce costs. In other sectors, acquisitions are in response to change, most commonly digital disruption. For example, long established companies may look to buy smaller ones that have the technology they need to succeed in the future. Although commentators love focusing on these mega trends, they should not distract owner managers from the reality that the usual drivers are still very much alive and kicking. Larger companies are looking to diversify, build market share or – as in the Pukka Herbs and Vouchercloud deals – add value by plugging acquisitions into their bigger and broader distribution channels.
The first reaction to the Brexit vote was one of shock, with stock markets falling sharply but quickly rebounding as it became clear to investors that nothing was going to happen fast (how right they were!). Since then, business as normal seems to be the strategy, but with a wait and see approach to making any big decisions. This caution is likely to persist until an agreement with the EU is reached, but it is important to acknowledge that – despite this apparent headwind – deal making has been healthy.
One reason may be that a side effect of the Brexit vote was a sharp fall in sterling, making British companies significantly cheaper in dollar terms and therefore boosting overseas investments. For domestic transactions, the availability of funds and the commercial logic of the decision may simply be outweighing any Brexit headwinds.
So, for owner managers, what does this all mean? While the current picture looks sunny in terms of negotiating a successful sale, don’t expect plain sailing. As prices and multiples have risen, buyers are only willing to pay today’s premium rates for the right target. That means, as a seller, you need to do everything to attract and maintain the interest of a buyer. As discussed in my Exit blog, that means understanding your potential buyer and working towards a future sale – so that when the time comes you are firmly in their sights and ready to go.
It may also be worth thinking about getting ready to make your move sooner rather than later. Not only did many forecasters miss the beginning of the current M&A recovery, they also repeatedly called its end. But, rather like a stopped clock, they will eventually turn out to be right. The picture is finely balanced. While the cost and availability of funding should remain attractive, the markets’ relaxed attitude to significant political uncertainties may not last forever, so setting your tent out while the sun is shining looks the sensible route to take.
Please feel free to get in touch so we can talk you through the options available and help you identify the best route for you and your business.