Tuesday, October 29, 2013

What's Behind the Slowdown in M&A Activity?

Andrew Ross Sorkin is out with a good column in this morning's New York Times about the lack of mergers and acquisitions (M&A) activity this year.

Sorkin points out that the combination of relatively cheap valuations, low interest rates and record high corporate cash balances would typically lead to an explosion in mergers. 

However, with the exception of a few high profile mega-deals (e.g. Verizon buying the rest of Verizon wireless from Vodaphone), the number of M&A deals are running at the lowest levels since 2005.

As he writes:

“{The lack of deals}  reflects the broad-based loss of confidence in the business community and their inability to make significant capital investment, be it M.&A. or capital spending, in large measure because of the uncertainty of tax and regulatory policy from Washington, D.C.,” said Doug Kass, founder of Seabreeze Partners Management. “Until Washington, D.C., grows more proactive, less inert in policy, this is likely to continue.”

But that may only be part of it.

What if the slowdown in merger activity isn’t cyclical, but secular? What if corporations have learned the lessons of so many companies before them that the odds of a successful merger are no better than 50-50 and probably less? Is it possible that the biggest deals have already been done?


There may be other reasons other than the usual suspects.

Small regional banks, for example, would seem to be ripe candidates for mergers. The costs of being a bank under much more regulatory scrutiny have risen dramatically, while low interest rates have crushed net interest margins.  Yet, as Sorkin points out, "Can you even imagine the outcry if a big bank merger were announced in this postcrisis world?"

David Rubenstein of the Carlyle Group gave an interview to the Associated Press yesterday.

Rubenstein - one of the most astute private equity financiers in the world - thinks that the recent government shutdown added to the lack of corporate confidence necessary to rekindle deal-making.

He also noted that while the official statistics indicate a recovery in the United States, real income growth for many people has been non-existent, creating a huge gap between Wall Street and Main Street.

As far as his world of private equity, he comments that while deal and fundraising activities are dramatically lower, causing the industry to change:

Q: What is the state of the private equity industry?

A: Deal volume is less than half of what it was in 2007 and fundraising is now 46 percent of what it was. One bright spot is that distributions (to investors) have just about fully returned to their pre-recession peak.

As a result, the private equity firms have also re-tooled themselves. There is much more hands-on work with the companies than there ever was before, and far less financial engineering.

A number of the firms have gone public as well. While they're not household names, they are now publicly traded and operate in a different model than they ever did before. You also see much more emphasis on investing outside the U.S.

The one bright spot in all of this may be from a contrarian standpoint, as Doug Kass says in Sorkin's New York Times piece:

And while mergers may be a good barometer of boardroom confidence, Mr. Kass says it is a poor indicator of the economy and the market.

“Never lose sight that business leaders are much like retail investors,” he said in an email. “They buy (invest and take over) high and sell low! As such, and based on history, they are very lagging indicators.”