UBS: Booming M&A - what’s the big deal?

– Global Merger & Acquisition (M&A) accelerating to record levels as cash-rich corporate balance sheets, strong corporate confidence, low borrowing costs combine with robust global growth backdrop to drive deal flow. 

– Disruptive technologies, structural industry change are major factors in increasing corporate activity across telecoms, media, IT, healthcare, pharmaceutical and retail. 

– Shareholder activism, private equity cash pile increasingly powerful long-term supports to M&A. 

– Cross-border deal flow remains strong despite geopolitical risks as digital due diligence tools de-risk M&A and aid integration. 

– 2007 revisited? We see structural and strategic motivations rather than synergy-led growth for growth’s sake as the major drivers to M&A. Scant evidence of late cycle excess to-date. 

– Rising M&A likely to act as ongoing support to global equities.

Exhibit 1: Global M&A Q1 2018 values, % change v Q1 2017.

Source: Mergermarket’s Global and Regional M&A Report Q1 2018

After an 18 month delay due to anti-trust objections raised by the US Department of Justice, the completion of the USD 85bn takeover of media group Time Warner by telecoms giant AT&T in June to create a ‘media vertical’ is seen by many as opening the floodgates to further major deals in the telecoms and media sectors. But if the blurring of the lines between traditional media and technology is likely to drive a swathe of other major content and distribution tie-ups, the two sectors are hardly alone in seeing an increase in corporate activity. 

According to Mergermarket’s Global and Regional M&A Report Q1 2018, the value of M&A globally in the first three months of the year was USD 890.6bn, up 18% yoy and the strongest start to the year since Mergermarket’s records began in 2001. With 14 ‘megadeals’ above USD 10bn across business services, energy, construction, real estate and consumer sectors, the figures are notable for their breadth by sector and geography, as well as for their scale. More recent newsflow, including the AT&T/Time Warner decision, suggests no let-up in the pace of activity since the end of Q1.

The key question for investors is whether this M&A boom is a short-term anomaly or something more substantial and sustainable that will influence markets over a meaningful horizon. We believe it is the latter. In truth, the case for increasing M&A globally over the next one to two years was already compelling even before the US government’s objections to the AT&T/Time Warner deal were so comprehensively dismissed. Backed by a perfect storm of strong global growth, cash rich corporate balance sheets, low borrowing costs, high levels of corporate confidence and technology-led structural change across industries, 2018 was already shaping up to be a record year of corporate activity.

Return of animal spirits 

With global growth rates comfortably above-trend and US economic momentum particularly robust, the demand backdrop certainly appears conducive to deal making and, in our view, is likely to remain so. Corporate confidence in this environment remains high. According to NFIB’s Small Business Optimism Index in the US, confidence is at a 34-yr high— helped by all-time highs in some index components including expectations for business expansion and positive earnings trends.

In a recent survey by global consultancy EY, (Global Capital Confidence Barometer, April 2018), some 86% of the corporate and private equity respondents said they expected the overall M&A market to improve over the next 12 months. Strong corporate earnings, particularly in the US, and a belief that credit availability will remain strong are the key ingredients here alongside the return of animal spirits in corporate America. Doing deals clearly involves risk. We therefore see current high levels of corporate optimism as an important support to M&A.

Tax cuts supporting 

US deal flow A key driver of US corporate confidence comes from recent tax reform. Indeed, the Tax Cuts and Jobs Act has changed the tax landscape in a sufficiently material way to be a driver of increased M&A activity in itself. In simple terms, the reduction in the federal corporate income tax rate from 35% to 21%, the introduction of a territorial tax system (tax free dividends from overseas subsidiaries), and the provisions for the repatriation of cash held in overseas subsidiaries by US corporates are in aggregate likely to increase cash on balance sheets immediately, in some cases considerably. The tax reform therefore provides additional firepower for M&A deals as well as making domestic US targets more attractive.

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