US Deal Flow to Remain Stagnant for Remainder of 2013, says EY
New York, 8 July 2013
– Economic optimism is improving in the US; however, there will not be big changes in US deal volume for the remainder of 2013, according to EY Transaction Advisory Services.
- Macroeconomic uncertainty continues to hinder deal activity, despite improving economic confidence
- Fundamental reset in the size of the M&A marketplace could be taking place
- Healthcare, consumer products, financial services, technology, and power & utilities show some signs of improvement in US M&A
“There is a significant, on-going element of uncertainty, preventing the wave of M&A we hoped for and macroeconomic pressures including slow global growth, unresolved regulatory, fiscal and tax issues, and high valuations driving down returns are slowing inorganic growth plans,” said Richard Jeanneret, Americas Vice Chair, Transaction Advisory Services for the EY organization. “The stagnant US deal volumes in the first half of 2013 have done little to reassure corporate executives hoping for a strong M&A rebound this year, but we are still seeing deals in certain industries and private equity firms are looking for opportunities.”
The number of deals for the first half of 2013 in the US decreased just 3% to 3,845 deals from 3,949 deals in the same period in 2012.1 There was a larger drop quarter over quarter as overall activity slipped 11% to 1,810 deals in Q2 2013 from 2,035 deals in Q1 2013 after a relatively strong start to the year.2 On a positive note, US deal value shot up 29% for the first half of the year to $416.3 billion in 2013 to date from $323.8 billion in the first half of 2012.3 Similarly to deal activity, value declined 14% from Q1 2013 at $223.3 billion to $193.1 billion in Q2 2013.4 This is due to a number of high-profile deals with hefty price tags announced in the US.
“The fact that we saw a few mega-deals in the first six months indicates that some companies are feeling more confident about the US economy and are willing to make bolder moves, but we do not expect these mega-deals to spur an uptick in the number of deals as most were opportunistic transactions,” said Jeanneret.
The fundamentals for deal-making are in place and confidence is improving with plenty of cash available and open credit markets. Fortune 1000 companies continue to hold a tremendous amount of cash on their balance sheets and have over $1.8 trillion in cash.5 According to EY’s Capital Confidence Barometer; 58% think that global credit availability is improving. Forty-four percent of US companies think the global economy is improving and 76% expect global M&A volumes to improve.6 However, only 29% of US companies expect to do a deal in the next 12 months which is consistent with prior years, suggesting that a large number of companies are unlikely to execute deals and US volumes will remain at current levels.7
Fundamental reset in M&A volumes?
While the necessities for deal making – cash and credit – are strong and the pent up demand for deal making is robust we are in our sixth straight year of declining deal volumes. Even as economies are recovering, the level of macroeconomic and geopolitical uncertainty is still very high and the structural issues underlying that uncertainty are significant and without a short term or substantive fix in sight.
“One has to wonder given that we have had more than a half decade of persistently soft M&A activity if a fundamental reset in the M&A marketplace is occurring,” says Jeanneret.
This would not be unprecedented from a historical perspective. Data for M&A activity goes back over a century and during that time frame there have been long lasting and steep declines in M&A activity.
“The level of macroeconomic and geopolitical overhang to the M&A market could stall a surge in M&A activity for the foreseeable future,” added Jeanneret.
Private equity continues to pursue opportunities
The slow-growth global economy and dwindling appetite for corporate M&A have created a challenging and competitive marketplace, but PE firms continue to be an opportunistic investor utilizing readily available acquisition financing to acquire businesses and refinance portfolio companies. US PE acquisitions declined in the first half of the year, down 25% in volume to 386 PE acquisitions year-to-date in 2013 from 512 during the same period in 2012.8 However, the value of acquisitions skyrocketed 94% to $85.4 billion in deal value for the first half of 2013 from $44.1 billion in 2012 due to the return of multi-billion dollar buyouts.9 Aggregate exits are also down for the first half of the year to 123 in 2013 from 173 in 2012.10 PE-backed IPOs are down 31% year-to-date to 29 versus 42 in 2012; however the value is up 14% to $9.9 billion.11
“The run-up in the stock market has had a significant impact on valuation expectations, challenging deal activity so far this year,” said Jeffrey Bunder, Global Private Equity Leader, Transaction Advisory Services for the EY organization. “There are reassuring signs; however, as funds are sitting on $35012 billion of dry powder, the demand has held up for the sale of PE-backed businesses and the IPO market has been phenomenal from a private equity perspective.”
Fundraising continues to improve in the US and year-to-date aggregate commitments have increased 38% to $96.8 billion in 2013 from $70.0 billion in 2012.13 According to EY’s Private Equity Capital Confidence Barometer, 85% of PE firms think fundraising will be positive or stable over the next year.14 Geographic and sector based funds have been a focus of the large PE funds as they look to capitalize on expanding LP investment targets.
“Real estate, energy, consumer products and industrials have been the most active sectors for private equity. For the larger firms, a global strategy is increasingly important with an emphasis on the emerging or frontier markets. PE firms are expanding their global strategies, and exploring newer emerging markets such as Colombia, Mexico, Chile, Peru, Africa, Malaysia, Thailand and Indonesia,” added Bunder.
While the total number of deals decreased globally and in the US for the first half of the year, there were a few sectors which saw growth in volume and value.
“Companies need to transform and grow in order to create shareholder value and adapt to the changing landscape within every industry. Sectors that are likely to see activity – even as overall volumes remain consistent – include healthcare, consumer products, financial services, energy, and technology, in the second half of the year,” said Jeanneret.
Healthcare & Life Sciences
For the first half of 2013, healthcare services M&A rebounded, and the sector is positioned to be active through the remainder of the year. US healthcare M&A volume increased 14% with 199 deals announced so far this year compared to 174 for the same period in 2012.15 Although deal volume was up, healthcare deal value dropped 10%, to $7.9 billion in 2013 down from $8.9 billion in 2012.16 Continued general confidence in the debt markets has made healthcare financings easier to execute by historical standards in the areas of cost, structure and leverage.
“Deal size over the next six months will tend towards the middle-market, and we expect to see an increase in activity as companies transact for scale, convergence and to meet rolling milestones dictated by the Affordable Care Act,” said Gregory Park, the US Healthcare Sector Leader for Ernst & Young Capital Advisors, LLC. “While we will continue to see larger, opportunistic M&A, many healthcare deals – mergers, acquisitions, joint ventures and affiliations – are going to be at the local or regional level, and we will start to see an increasing number of exploratory conversations between the healthcare sector and the biotech & life sciences sectors. We will also continue to see companies that have traditionally been outside of the healthcare realm – like consumer products, defense, and technology services – explore the healthcare market this year and beyond.”
In the life sciences space, pharmaceutical deals were down 9%, with 117 deals in the first half of 2013 compared to 128 deals in the same period of 2012.17 Meanwhile, deal value climbed 38% to $35.6 billion in the first half of 2013, up from $25.8 billion for the first half of 2012.18 The number of biotechnology deals dropped 15% to 82 deals year-to-date compared to 96 in 2012.19 Biotech deal value, however, climbed 17% to $18.2 billion deals year-to-date 2013 up from $15.5 billion.20
“Looking to the second half of the year, life sciences transactions will be in the diagnostics and med tech subsectors and M&A volume is likely to be consistent with what we have seen so far this year, although we may see an uptick in deal values,” said Benjamin Perkins, the US Life Sciences Sector Leader for Ernst & Young Capital Advisors, LLC. “Life sciences sector valuations are near all-time market highs and that has created a split camp among investors and strategics regarding whether the next movement is a gradual appreciation or a large step back. This divergent mindset will drive some larger players to place big bets on acquisitions while others will pause to prune their portfolio with an eye toward shifting the business model away from historic prescription innovation to capturing revenue at other points in the healthcare continuum. Emerging markets will continue to be a focus for all companies across the sector.”
Merger activity in the first half of the year in the consumer products sector was flat, rising only 1% to 183 deals in the first half of this year, from 182 deals over the same period in 2012.21 Overall US deal value climbed 153% to $55.4 billion this year, up from $21.9 billion in the first half of 2012.22
“While overall activity continues to fall below expectations, a couple of large non-traditional deals drove values up but these deals were opportunistic and are unlikely to spur a wave of larger deals this year,” said Steven Potter, US Consumer Products Leader for Ernst & Young Capital Advisors, LLC. “We may see some activity in the future as executives position their companies in the global market due to demand in emerging markets. There is a huge supply-demand imbalance however, in the consumer products sector right now with very few quality targets but significant cash available for investment. Companies are considering divesting non-core assets and portfolio rationalization and CEOs are still reluctant to make substantial acquisitions.”
In the US financial services sector, the insurance industry saw a 7% uptick in deal volume to 107 deals for the first half of 2013 over the same period in 2012 at 100 deals.23 However, deal value dropped 54% to $5.0 billion for the first half of 2013.24 Asset management deal volume dropped 19% to 68 deals for the first half of 2013 from 84 in 2012.25 However, deal value for asset management ticked up 187% to $3.2 billion for the first six months of 2013 from $1.1 billion in 2012.26 Deal activity in banking and capital markets was flat for the first half of 2013, declining only 1% to 235 deals compared with 238 in 2012.27 Banking and capital markets deal value surged 25% to $13.6 billion year-to-date 2013, compared to $10.9 for the same period in 2012.28
“Asset management companies – especially those in the US – are poised to benefit from the rising stock trends and there continues to be transformation as the lines between traditional, alternative and PE's blur the sector,” said Nadine Mirchandani, Americas Financial Services leader, Transaction Advisory Services for the EY organization. “Increasing energy around insurance, the mortgage sector, specialty finance and financial technology will drive financial services M&A activity in the remainder of 2013. Companies are prioritizing organic growth but inorganic growth is key when a boardroom wants speed-to-market and transformative change. M&A and divestments will continue to be strategic—and necessary—for financial services.”
Power & Utilities
The number of US power & utilities deals rose 42% to 91 deals in the first half of 2013, up from 64 deals in the first half of 2012.29 Power & utilities deal value spiked 381% to $17.7 billion in the first half of this year, compared to $3.7 billion from the same period last year.30
Joseph Fontana, Global Utilities Leader, Transaction Advisory Services for the EY organization, observed that 2013 has been a pleasant surprise for the US. “At the beginning of the year we expected the appetite for acquisitions in power & utilities to be low, both globally and in the US, due to a disconnect between buyers and sellers. Our global outlook remains grounded in the realities of the macroeconomic environment, but the US story is rosier and improved activity will be driven by P&U companies rebalancing their portfolios around generation assets, investment in renewable energy, and potentially innovative deal structures around transmission.”
Oil & Gas
US oil & gas transactions fell 12% to 181 deals in the first half of 2013, down from 206 deals over the same period of 2012.31 Deal values slipped 9% in the first half of 2013 to $48.2 billion from $52.8 billion in the first half of 2012.32
“Uncertainty around the near term commodity price fundamentals - both supply and demand - have put a damper on M&A activity so far this year,” said Ronald Montalbano, US Oil & Gas Sector Leader for Ernst & Young Capital Advisors, LLC. “Oil & gas deal activity could improve over the next 12 months as companies develop land positions and convert acreage to reserves and production in order to maximize value in a sale. Private equity players continue to take an active role in oil & gas. Asset optimization and industry consolidation will continue to drive the sector.”
M&A deal flow in the technology sector was slow in the first half of this year; however, some headline popping deals suggest that larger companies are making moves for targets in the cloud and mobile space. The number of US technology deals dropped by 17%, down to 655 deals in the first six months of 2013 from 793 deals over the same period of 2012. Although volume was lower than the norm, deal value jumped 30% to $43.0 billion in the first half of this year, up from $33.1 billion over the same period of 2012. The drivers of technology M&A activity continue to be cloud computing, smart mobility, social networking, big data and accelerated adaptation.
“Historical cycles also suggest that a wave of tech M&A may be coming,” said Jeffrey Liu, US Technology Sector Leader for Ernst & Young Capital Advisors, LLC. “Previously, deal activity was driven by cycles of M&A, for example, those centered around the mainframe and client server. Now, the tech industry is experiencing a mobile and cloud M&A wave as many companies realize that those transformative trends are permanent, and they are reacting by making a land-grab for strategic assets. Even with high valuations for targets, larger companies are running to make these acquisitions before it is too late.”
Additionally, divestiture activity may pick-up for the tech sector for the remainder of 2013 and in the longer term. “Carveouts are long overdue, either from businesses that have been taken private, or public companies looking to discard non-core assets and free up capital. There is a general awareness among tech companies that they need to streamline and aim for higher returns,” Liu added.
Approach to deal-making transforms
Since the financial crisis, deal volumes overall continue to fall below expectations. There is not only a fundamental reset in M&A activity occurring, but a shift in the very nature of how companies are approaching deal-making. Companies are no longer weighing past performance as heavily as an indicator of future success; instead, they are focused on forward looking market dynamics and competitor response, potential market disruption and operational improvements.
“All of the pieces are in place for resurgence in deal-making down the line, but it’s clear that the nature of deal-making has changed since the crisis and at least for the remainder of 2013, activity will be consistent. M&A now involves a much more deliberate strategy and an even more gradual process than it did before the economic crisis began,” said Jeanneret. “In this new era of deal-making, long term strategic planning, capital allocation, filling strategic product and geographic gaps and portfolio management are in and historical look backs and regional thinking are out.”
See more about how deal making has changed post-crisis here: Top 5 changes in deal making
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