Falling confidence and rising concerns on valuation gap to hit M&A in next 12 months
London, 8 October 2012 – Global mergers and acquisitions (M&A) are set to be dealt a double blow as a faltering global economic outlook reduces the appetite for inorganic growth, while rising concerns over valuations also threaten to further undermine the immediate business case for M&A. Renewed concerns over economic confidence is seeing more companies opt for bottom-line performance improvements and lower risk opportunities instead of top-line growth, according to Ernst & Young’s seventh bi-annual Capital confidence barometer, based on a survey last month of more than 1,500 senior executives in 41 countries.
It is not just the dip in confidence in the business environment that is dampening enthusiasm for M&A – a quarter of those interviewed now see the gap between the valuation of potential acquisitions and the prices sought by sellers as the main reason not to do a deal. Consequently, only 25% of respondents now expect to pursue acquisitions over the next 12 months – the lowest number since the Barometer began in 2009. This is down from 31% in April and 41% a year ago.
There is also a sharp decline in companies planning to divest in the next 12 months, from 31% in April to 19% today, which means fewer willing sellers will be coming to the deal table.
Pip McCrostie, Global Vice-Chair, Transaction Advisory Services, at Ernst & Young, says: “As recently as April we saw a rise in executive confidence on the global economy but since then there has been a dramatic fall. The current weak outlook and growing concerns about the valuation gap between buyers and sellers is a further setback for M&A in a global market where deal activity is already low and sentiment cautious.”
Companies are less optimistic about the future than they were in April with the proportion globally whose business has been affected by the Eurozone crisis rising to 89%. Only 22% of respondents believe the global economic situation is improving, down from 52% six months previously, while 78% have seen no improvement since then. The number of companies who report declining sentiment, increased from 20% to 31%.
Within that context, 27% of respondents now believe deal prices will decrease, up from 16% a year ago. With many expecting M&A asset values to drop, an increasing number of would-be buyers may hold off in what they think will be a falling market for prices.
“Despite having large cash stock piles and adequate access to capital, executives are waiting for a sustained recovery before engaging in M&A – they are more reluctant to make a move in this economic environment of low or stagnant growth,” says McCrostie. “In the current climate, buyers have longer memories than sellers and recalling some of the more expensive boom-time acquisitions, they are wary of assets they consider to be currently over-priced.”
Large players, smaller deals
With M&A sentiment subdued, even those looking to acquire have relatively modest aspirations. More than 80% say that they will do deals worth less than US$500m, and 38% say they will do deals under US$50m.
McCrostie says: “There will be fewer transformational deals, which is reflected in the preference for smaller deal sizes. Executives are clearly signaling an aversion to risk, preferring smaller deals to fill strategic gaps.”
Among potential dealmakers there is increasing evidence that developed markets are regaining momentum as top investment destinations. Four of the top five destinations for companies making investments are unchanged from April: China, US, India and Brazil, with fifth-place Germany replacing Indonesia.
Industrial products (34%), financial services (32%), oil and gas, and consumer products (both 28%) are the sectors most likely to pursue acquisitions in the next 12 months. The least likely are automotive (18%), technology (18%), power and utilities, life sciences, and public sector (all 21%). The sectors most likely to divest are: financial services, industrial products, technology, consumer products and automotive.
Boardroom focus turns to fundamentals
While growth remains the number one objective for 41% of executives, this is a significant drop from April. It is also the lowest percentage of executives citing growth as their top priority since October 2010.
Compared with six months ago, there is increased focus on optimizing capital by reducing costs and improving efficiency. Deleveraging is a priority, with 31% of respondents planning to use excess cash to pay down debt, versus 18% in April.
“An increasing number of executives are looking to improve bottom-line performance through better execution and preserving cash and capital positions rather than growing organically or pursuing inorganic growth,” says McCrostie. “Companies are focusing attention on deleveraging and strengthening their balance sheets against a backdrop of ongoing uncertainty in many mature markets and a softening of growth in many emerging markets.”
McCrostie, concludes: “Five years ago, topics such as efficiency and cost control would rarely have made the boardroom agenda. Today, however, these activities are crucial drivers of value, particularly at a time when top-line growth remains elusive in most developed markets.”
Notes to Editors
About the survey
The Ernst & Young Capital confidence barometer is a survey of over 1500 senior executives from large companies around the world and across industry sectors. The objective of the Barometer is to gauge corporate confidence in the economic outlook, to understand boardroom priorities in the next 12 months, and to identify the emerging capital practices that will distinguish those companies that will build competitive advantage as the global economy continues to evolve. This is the seventh bi-annual Barometer in the series, which began in November 2009.
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