Full steam ahead

IFR Top 250 Borrowers 2015
10 min read

Forget the political issues taxing Europe, ample liquidity and competition between lenders are creating a boom time for companies looking to finance their acquisition plans.

With Greece close to collapse, the eurozone still emerging from stagnation and geopolitical tensions gripping Russia and Ukraine, one could be forgiven for believing the engines of the European economy were failing one by one.

But look at the number and value of merger and acquisition deals being struck in Europe, and it is clear the appetite for major takeover deals by corporate executives and bankers shows no signs of abating.

Deals worth more than US$865bn were agreed in the 12 months to March 2015, a surge of 39% on the value of transactions done in the previous 12 months and the highest for at least four years, according to Thomson Reuters data. Real estate, healthcare, industrials and materials made up half the deals.

The deals are also getting bigger: 14,228 individual M&A were agreed in the 12 months to March 2015 for an average of US$60.8m per deal. There were more deals done in the 12 months to March 2011 but for a lower value – 16,472 takeovers for a total of US$722.9m, or US$43.9bn each.

Financing the deals has not been a problem – indeed, analysts say the glut of liquidity in terms of cash, equity values and debt financing has been a driving factor behind deals.

“There is a lot of money around for M&A, either on companies’ balance sheets or through the bank markets, which are awash with cash,” said James Douglas, global head of debt capital advisory, Deloitte.


“All the banks are mustard-keen to lend in M&A situations because M&A financing is more lucrative than refinancing. The challenge is that there simply isn’t enough M&A activity to match the cash on companies’ balance sheets or the cash available in the marketplace,” he said.

The one area where there has been a tailing-off in activity this year has been the mid-market private equity sector, according to David Miles, London head of debt finance at lawyers DLA Piper.

“There have been fewer vendors coming to market, although there is no good reason for that,” he said. “There is lots of liquidity in both debt and equity, lots of willing purchasers and lots of competition therefore for high quality assets.”

A series of elections across Europe, including in the UK and Spain, and mounting tensions over Greece and Ukraine may have put the brakes on activity, Miles said.

As well as ample liquidity, CFOs have benefited from increased competition between the traditional banks and debt providers and alternative lenders, which has led to lower pricing, reduced fees and higher leverage.

Alexander Griffith, debt finance partner at DLA Piper, said there were “plenty” of lenders in the market, while new ones were coming to the market. “This is driving pricing down for the providers of debt and drives leverage up, helping to increase asset prices. So for vendors it is an ideal market.”

Another factor driving deals is a switch of strategy among both company directors and their financial advisers in the face of increasingly activist shareholders, according to Nick Lawson, head of event-driven strategies at Deutsche Bank.

Two or three years ago bankers advised CEOs to cut their cost base. “Now these companies have shored up a huge amount of cash and are slightly exhausted in terms of what to do. I have not seen any real capital expenditure coming through,” said Lawson.

Instead, companies are pursuing M&A deals to ensure shareholders “don’t actually question them too much”, Lawson said. “It is not that people are trying to do deals because of synergistic benefits but because of paranoia.

“The vast majority of deals being done at the moment are probably being done as a reaction to shareholder activism, so they are seen to be doing something.”

Oiling wheels

Expected to be the biggest energy-related acquisition of 2015 is the US$72bn agreed takeover of BG Group by Royal Dutch Shell, in what was the biggest oil merger of the past decade. The deal, which will not close until 2016, was funded by cash and shares.

Chief financial officer Simon Henry said that if approved it would push Shell’s gearing up to 20% but that the company would “prioritise debt repayment initially” following completion of the combination.

Having paid down debt, the financial strategy was focused on building up cashflow again using cost-savings from the merger to fund a competitive dividend policy and US$25bn buybacks from 2017 to 2020.

“This is a new shape for Shell, and I think we are laying a platform for the potential of a stronger cashflow profile for shareholders here, a new underpinning for our dividends, and share buybacks,” said Henry.

Lawson at Deutsche Bank said this was a perfect example of the new trend in M&A being driven by a desire to respond to shareholder pressure.

Iain Macmillan, head of M&A at Deloitte, said the drop in the oil price would fuel M&A in the energy sector. adding: “Businesses under threat from lower oil prices need to find synergies and that will drive consolidation.”

As well as big intra-Europe deals, the Continent has emerged as a target destination for overseas investors. The value of inbound deals in the first three months of 2015 surged from the previous quarter, up by 36% from US$77.0bn to US$105.0bn.

According to Deloitte, nearly one in four dollars spent on deals in Europe in 2014 came either from the US or Asia. That trend has continued into 2015. Thomson Reuters data showed that, taken together, China and Hong Kong accounted for US$35.2bn out of the US$180.4bn of takeovers, overtaking the US$32.5bn by US companies.

The largest European deal during the first three months of 2015 was the US$15.4bn purchase of 02, the UK mobile telephone company, by Hutchison Whampoa, the Hong Kong investment company.

China National Chemical Corporation reached an agreement with the controlling shareholders of Pirelli to buy the Italian tyremaker in a deal valued at US$6.8bn. Qatar Investment Authority, the oil-rich emirate’s sovereign wealth fund, paid US$1.93bn as part of a US$4bn joint takeover of Canary Wharf with Canadian investor Brookfield Properties.

Lawson believes there is no reason for the deals to dry up.

“Companies were worried that if they did a big deal then their own share prices would be punished because of that. Now, you are seeing the acquiree’s and the acquirer’s share price being rewarded by doing deals”

“It is sustainable because there is so much cash,” he said. “There is a pent-up need for consolidation in a number of sectors at the moment.”

Miles at DLA Piper agreed, saying any business with a solid cashflow income stream but few assets would be attractive to traditional mid-market European private equity.

Competition and collaboration

Another factor behind companies’ willingness to pursue an M&A strategy as either buyer or target is that it tends to boost their market capitalisation.

“Companies were worried that if they did a big deal then their own share prices would be punished because of that. Now, you are seeing the acquiree’s and the acquirer’s share price being rewarded by doing deals,” Lawson at Deutsche said.

“It is no longer the case that putting your head above the parapet [means] you get 10% of your share price wiped. So that raises confidence in boardrooms.”

Most analysts agree the outlook for European M&A is for continued growth driven by the robust financial position of European companies and the attractiveness of Continental assets to overseas acquirers.

Griffith at DLA Piper said the glut of liquidity would unpin deal activity over the course of this year. One new trend was towards banks and debt funds working together to deploy capital in a combined structure.

“Not only is there a lot of competition but a lot of collaboration going on. We are seeing an increasing prevalence of first-loss, second-loss structures, which is another strength to the market giving greater product optionality,” he said.

Sriram Prakash, head of M&A and new growth insight at Deloitte, said the firm’s recent survey of 1,400 European CFOs was very optimistic.

“Everyone is expecting increased revenues and profitability, a wave of M&A activity, and restructuring to continue,” he said.

Companies will cope with the eventual rise in US rates, especially while the European Central Bank is pumping US$1trn of liquidity into the market.

“Even if interest rates rise a couple of per cent that’s not going to have an impact if you have to pay 200bp more for debt,” said Douglas. “It is dangerous to say the outlook is benign when you don’t know what’s round the corner, but it is hard to see any factors we are not aware of having a big impact on M&A volumes.”

Short of an outbreak of renewed geopolitical tensions in Europe, Europe’s M&A train looks set to carry on running at full steam.

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Full steam ahead