December 2014 Issue
2014 has been a bumper year for mergers and acquisitions (M&A). Indeed, there has been a multitude of multibillion dollar corporate deals announced across a variety of sectors and locations. Although the onset of this activity was localised in the US, the rest of the world soon caught up as the year progressed.
The global recovery has begun to gather pace in recent years. As the world economy recovers from the worst ravages of the financial crisis, the total value of M&A deals has soared. In the first three quarters of 2014, the value of global M&A hit $2.66 trillion, according to Thompson Reuters – a 60 percent increase on the same period in 2013. Many deals announced during this time were mega deals, pushing the number of transactions worth $5bn or more to a new high to September. Transactions such as Valeant Pharmaceuticals’ $55bn purchase of Botox-maker Allergan, Facebook’s $22bn acquisition of mobile messaging platform WhatsApp and Comcast’s proposed $70bn deal for Time Warner Cable, all helped to bring M&A back to the fore.
The resurgence in M&A activity, and the return of the mega deal, has been built on a number of factors. Generally, confidence in M&A has risen over the last 12 months; the volume of M&A deals completed throughout 2014 is testament to that resurgence. Some observers expect M&A volume and value to continue to grow throughout 2015, reaching pre-financial crisis levels next year for the first time. The lack of deal activity in the post crisis years has contributed to a pent-up demand for transactions in 2014. Increased investor appetite for growth, the availability of cheap debt and a lack of other obvious ways to cut costs also drove companies to seek out M&A opportunities in 2014. These conditions are likely to persist.
Additionally, as firms have begun to search for growth opportunities they have looked further afield, making the re-emergence of cross-border activity a central theme of M&A in 2014. In the first nine months of the year, cross-border M&A accounted for 36 percent of total global M&A volume, its highest share since 2008. The value of these deals reached $1 trillion during that time, an 81 percent year-on-year increase, according to Dealogic, and the highest first nine month total since 2007.
Inversions
The rise of inversion deals has had a transformative effect on cross-border activity. As an acquisition practice, inversion deals have only been en vogue for a few years, yet they are highly influential, driving much of the announced cross-border activity in 2014. An inversion deal allows a firm to re-domicile abroad in a country where taxes are lower, thus reducing its overall tax rate. This has been particularly popular for American firms, given that corporate tax in the US is among the highest in the world.
In 2014 to date, inversion deals have accounted for 66 percent of cross-border transactions, up from 11 percent in 2011. A number of the year’s largest proposed deals have been inversions, including Pfizer’s aborted $116bn bid for UK drug manufacturer AstraZeneca – the largest deal attempted at the time of writing. One of the biggest proponents of inversions has been the pharmaceutical industry. The proposed $54bn acquisition of Shire Plc by US drug maker AbbVie was one of the largest transactions announced all year. Pharma firms in particular have been drawn to inversions as they face increasing pressure to control costs at home.
“Cross-border M&A accounted for 36 percent of total global M&A volume, its highest share since 2008.”
The proliferation of inversion deals has been popular with many shareholders, yet they are also controversial, drawing the ire of both Republicans and Democrats alike. A number of different responses to the tactic have been mooted. In late September, the Obama administration revealed plans to curtail inversions but stopped short of forbidding them completely. Under the new plans, firms will no longer be able to escape tax on their US earnings by using internal loans, dividends and share swaps to restructure themselves under foreign ownership. The US Treasury will use five sections of the US tax code in order to bring an end to inversions. Yet the changes will not be applied retroactively to companies such as Burger King, which has already announced its inversion abroad. The plans have been put forward to act as a deterrent to others.
Yet the effectiveness of those measures has already been called into question. One of the most notable features of the new regulations will restrict US companies’ use of offshore capital to fund mergers. Nevertheless, it would appear that the US government’s plan will scale back inversion deals rather than stop them altogether. While some observers feel that the non-legislative measures put forth by the Treasury Department may be subject to a legal challenge, it would be naive to assume that in the meantime the most agile and creative firms will be unable to circumnavigate the measures and recommence inversions down the line.
Furthermore, the Treasury’s measures may simply serve to make inversions more expensive for acquiring companies. In early October, shortly after the new measures became known, Medtronic Inc announced that its $42.9bn acquisition of Irish firm Covidien Plc would continue regardless. Medtronic noted that in order to complete the deal it will simply utilise $16bn in external financing.
While the Treasury’s measures could make inversions less profitable in the short term, they are unlikely to be successful in perpetuity. Ten years ago, Congress found itself in a similar situation over inversion deals. Although it was successful in stopping the most blatant inversions, those structured as legitimate mergers were still permitted. Arguably, this decision is part of the reason inversion deals have risen to their prominent position today.
Acquisitions in the US
Although the emergence of inversion deals over the last 12 to 18 months has driven outbound cross-border M&A from the US, the flow of transactions has by no means been one way. While American businesses have acquired a number of assets, particularly in low tax areas such as Ireland and the UK, companies from across Europe and Asia have also been active in purchasing US assets.
German companies in particular have targeted US firms. Giants across a variety of industries, including Siemens, SAP, Bayer and Infineon, have completed multibillion dollar deals in the US. German firms spent more than $65bn on American businesses in the first nine months of 2014, with around one-fifth of all bids for US firms coming from Germany. Of all the cross-border takeovers worldwide led by German firms, 60 percent were for US companies. Moreover, German companies spent more in the US in 2014 than in any other full year in the last two decades.
Despite a large proportion of the US population sharing German heritage, historically, German companies have been underrepresented in America, the world’s most important consumer market. This appears to be changing. Increasingly, German businesses are earmarking the US as an area of important strategic growth as they look to increase their international standing. The deals being pursued by German firms are invariably strategic, diametrically opposed to the inversion transactions currently favoured by many American businesses. One example is the $17bn acquisition of American life sciences company Sigma-Aldrich by German chemical firm Merck in late September.
Many of Germany’s industries appear to be on a solid path toward growth, built on the relative strength of the nation’s economy. While Germany’s European neighbours have stagnated since the financial crisis, the German economy generated growth and jobs. Furthermore, the country’s larger corporates have been amassing healthy balance sheets which are now, finally, being put to good use. Germany’s current position of strength on the continent may be another contributing factor behind the willingness to look overseas for M&A opportunities. Rising domestic labour costs and a worsening microeconomic climate among Germany’s neighbouring states are also prompting German firms to look elsewhere for M&A opportunities.
To that end, the acquisition of American firms by German businesses can often expose the acquiring firm to other global markets. At first glance, it would appear that Siemens, which has agreed a deal to acquire US equipment manufacturer Dresser-Rand for $7.6bn, is designed merely to increase its presence in the American shale sector. However, Dresser-Rand only generates one-third of its sales in the domestic market. The majority of the company’s sales of equipment for the oil and gas industry are generated in emerging markets. Many of the firm’s major clients are Russian, Chinese and Saudi Arabian. Moreover, the company has a number of manufacturing facilities across Europe, Brazil and India.
Germany is not the only European country engaging in M&A activity in the US. Companies from a number of other European states have also sought out deals across the Atlantic. Declining growth rates across the EU have forced European firms to rely on exports and internationalisation to achieve growth. Accordingly, European firms have poured into the US, acquiring US targets at their fastest pace since 2008. In the third quarter of 2014 alone, European firms announced $87bn worth of deals in the US, more than the whole of 2013 combined. The relative strength of the euro has also helped to facilitate European activity abroad. But European firms find themselves competing against the clock to complete deals, as the European Central Bank has declared a number of policies likely to drive the value of the euro down in the months ahead.
While European firms have turned to the US, European targets have become increasingly popular among companies from emerging markets over the last 12 months. For Asian acquirers in particular, Europe has become the go to destination as they look for ready-made brands and market know-how that can be exported wholesale to domestic markets. The $1.5bn acquisition of UK pizza chain PizzaExpress by Chinese private equity group Hony Capital is indicative of this trend.
Going forward
M&A opportunities have been plentiful in 2014. While inversion deals have played a significant role in the rise of cross-border activity, there is some uncertainty surrounding their immediate future as a deal driver.
On the surface, the majority of non-inversion transactions announced this year have been focused on tapping into the target company’s domestic market, typically in Europe or the US. However, this is rather reductive, for many acquiring companies appear to be leveraging the position of their target companies in other growth areas around the world.
Cross-border M&A is at a post crisis high. In the US, firms which have been boosted by the country’s economic recovery have been the most active in terms of international deals, and this looks set to continue.
© Financier Worldwide
BY
Richard Summerfield