Merger mania is back
By James Moore
Published: 28 March 2007
Barely a month ago, global stock markets were tumbling and excitable commentators were screaming "crash" as China wobbled badly and the FTSE 100 followed suit.
How quickly things have changed. The markets have recovered their poise, regaining much of the lost ground, and rare is the FTSE 100 company that is not seen as either predator or prey (or both). Equity strategists now confidently predict that the M&A boom will continue through the rest of the year.
The most recent data from Thompson Financial showed no let-up in the relentless flow of deals in the first quarter of 2007.
In total $76bn of transactions were recorded in Britain, a similar level to 2006. Globally, the value of deals was a staggering $893bn, up 3 per cent on the same quarter last year.
Yesterday the FTSE closed at 6292.6, up 0.7 points, but still more than 100 points of the year high of 6444.4.
A few more days and a bit of flesh on the bones of a few more deal rumours and that gap could be quickly closed.
At the beginning of the year, the Cantor Index spread on the end of year FTSE was 6,300 to 6,310. Now it is 6,400 to 6,410 and there are still plenty of buyers at that level. Confidence took a knock in February, but it has returned and bankers are sniffing around all manner of companies in the hope another bumper bonus season.
Cantor's David Buik says: "We saw huge buying in January but the market didn't make the quantum leap in February that we expected and that started to create doubt.
"Inevitably investors cut back their risk but the markets have recovered. A correction of between eight and 10 per cent in Asia was logical and sensible given the growth the Chinese and Indian markets had shown. The market has realised that and has settled down again, provided the heat in the Middle East doesn't get raised too much and Federal Reserve chairman Ben Bernanke provides adequate encouragement this morning."
It is the slew of M&A rumours that have done much to help the market regain its poise.
And the Goldman Sachs portfolio strategist Georgina Taylor says the factors that have been fuelling the M&A boom remain in place.
"Financing conditions haven't changed too much and the uncertainty has been pretty short term," she says.
Ms Taylor points to an intriguing piece of her research that suggests that the appetite for deals remains unusually strong among investors. Typically one might expect the share price of a predator to fall after announcing a bid.
However, the research shows the opposite happening. In deals of more than £1.8bn involving a European target, predators' share prices have actually risen after the announcement of the deal - by an average of 20 per cent. What is more, they still show strong gains 12 months on.
A notable example of this has been Barclays. While the bank's shares eased by 15p to 726.5p yesterday, they are still comfortably ahead of the 682.5p they opened at when the talks about a possible bid for ABN Amro were announced.
Taylor Woodrow's deal with rival George Wimpey is an all share merger, but the share prices of both have rocketed since the announcement at the beginning of the week.
Taylor says: "We see the trend of strong M&A activity continuing. The market is ready for deals, and you see that in the way acquiring companies are being rewarded by investors with rising share prices."
Neil Shah, head of research at Edison, is another who feels the M&A boom is by no means over. A major driven by the seemingly insatiable appetite of private equity for borrowing vast sums of money to take quoted companies private.
He points out that it is still relatively cheap to borrow and there is no shortage of lenders willing to put up the funds that have been fuelling the buyout merchants.
"There is still a lot of cash flowing around the global economy, which is generally healthy," he says. "The businesses they (private equity firms) are looking to buy, such as Next, are quality businesses. The fundamentals for M&A are still attractive, particularly when you look at stock market valuations compared to bonds.
"If you consider the conditions for M&A, there needs to be liquidity (a ready supply of funds), there needs to be upside when you look at equity valuations and there needs to be a willingness for people to get involved. All those conditions are still there."
The ability and willingness of Banks to lend was writ large in the recent results season. Britain's banks are throwing off pots of cash.
While they are not averse to use some of it to finance M&A (Barclays, probably) or to buyback shares/increase dividends (pretty much all of them, but Royal Bank of Scotland in particular), they are also more than happy to lend money to corporates or private equity firms looking for funds to finance deals. With the number of corporate loans that go wrong at all time lows, that is not surprising and there is no sign yet of the taps being turned off.
The deals are getting bigger too - KKR's buyout of Boots being a notable example.
Are there any clouds on the horizon? Worries remain about the US economy remain in the background. Growth is slowing and inflation remains a concern.
Ms Taylor says if the US Federal Reserve found itself unable to cut interest rates to revive growth, as a result of inflation, then the party could be over.
She is encouraged by recent comments from the Fed, though. What could change things, however, would be a major private equity deal going wrong.
The Financial Services Authority has already warned that a significant failure is "inevitable" as the buyout boys get increasingly ambitious and aggressive in their borrowing.
The regulator is also worried that sorting out the resultant mess will turn into a nightmare, thanks to the increasing size and complexity of private equity deals.
Ms Taylor says a failure could remove one of the key conditions required for the M&A boom to continue -the willingness of banks to lend freely.
"Something coming through that affected the credit market could change financing conditions," she says.
"Everyone is watching it pretty carefully, but so far everything has been pretty successful."
So for the moment, it looks as if the party is set to continue and bonus boys have little to worry about. For the moment.
Which FTSE 100 titan will fall next?
Cantor Index offers fixed odds on the first company to be taken over by the end of this year. These are some of the favourites:
Anglo American
Rival miner Xstrata is said to have designs - will need to be an out-and-out stayer to avoid being caught. 7/1
Centrica
A Russian predator could make a decent bedfellow for this utility. 6/1
Compass
This catering empire has spent the past two years reinventing itself with a sense of purpose. Perhaps under private-equity ownership, Compass could come into form rather more quickly. 8/1
Experian
Since the spin-off from GUS, Experian, the debt-collection evaluator, has been under the cosh. This is a hugely successful operation, which generates cash quickly. 8/1
Hanson PLC
Either Cemex of Mexico or one of the French building companies have been sniffing around this builder's merchant like a dog on heat. 7/1
ICI
It seems only a matter of time before either Akzo Nobel or another European chemical operator posts a bid, taking Teesside's standard bearer into Premiership company. 5/1
Kingfisher PLC
B&Q has made progress and maybe this retailer is a target for private equity if Home Depot is not interested. 7/1
Next
There has been frenetic activity in recent days. The shares are up by 45 per cent since Christmas, thanks to private equity. But is the price now too high to make the fashion chain next to go? 2/1
Prudential
Maybe chief executive Mark Tucker will do well to fend off predators such as AIG or Aviva. Unable to show its pursuers a clean pair of heels. 5/1
SSE
Utilities seem the name of the game. If E.ON fails to land Endesa, SSE seems a sitting duck. 5/1
Also in this section
- Market Report: Kingfisher takes wing on private equity bid talk
- David Kershaw: Ad man with Saatchi tattooed on his heart
- Old habits die hard as Lloyd's aims for profits, not market share
- The Investment Column: End of the bad news makes Tate & Lyle worth holding on to
- Market Report: Heineken bid rumour puts fizz into S&N shares
