Sunny M&A outlook undimmed by stock market clouds
The story of the first few weeks of 2016 has been one of stock market turmoil around the globe. So surely this has had a detrimental effect on corporate finance activity?
Well no. Actually things are still going fine across the board – and we envisage this continuing throughout 2016.
At home, in IPOs, we are still seeing keen interest from Australian groups seeking to access public capital markets across a range of industries and size of organisations. In infrastructure, the state government privatisation agenda continues across NSW, WA and Victoria, with special focus on the NSW Government electricity asset sell down. This is generating significant foreign direct investment interest. And there is considerable foreign interest in Australian infrastructure – as the ongoing bids for control of Asciano attest – which continues to attract capital from sources around the globe.
Notably, we are experiencing increasing US interest in Australian assets. The favourable exchange rate from the American side is certainly helping here and there are examples of both equity and debt capital investing into Australian assets.
In terms of M&A, activity is strong, especially in sectors experiencing consolidation such as the aged care industry.
And the positive mood for M&A transactions here in Australia is being matched around the world, as KPMG International’s latest 6-monthly Global M&A Predictor confirms.
This report predicts the appetite of businesses to do deals will rise by 4 percent over the next 12 months, indicated by predicted forward P/E ratios (our measure of corporate appetite or confidence). The capacity of corporates to fund M&A growth, is expected to rise by 13 percent over the same period, measured by net debt to EBITDA ratios (our measure of capacity), as companies continue to pay down debt and bolster their cash reserves.
In developed economies, the fundamentals are strong, with healthy balance sheets, profit levels and strong liquidity in the debt markets. And increased sector convergence and ongoing digitisation make a compelling case for future strategic adjustments. Emerging market economies will, however, remain a challenge.
Of course, as the stock market turmoil indicates, there are some uncertain economic indicators – notably a predicted fall in net profits of 7 percent globally. But it appears that analysts are pricing this decline into their predictions, with market capitalisations only expected to see a 3 percent reduction this year.
Europe is expected to be one of the strongest performers, with a 10 percent increase in appetite for deals predicted this year – more than double the global average. Closer to home, in Asia Pacific (Other) and Asia Pacific (Japan), the figures area a more modest 6 percent and 4 percent respectively. In North America, the positive environment for M&A activity in 2015 is expected to continue, with analysts expecting confidence levels to remain unchanged.
Capacity is also a key factor. Analysts are anticipating that the growth in capacity of corporates to undertake M&A transactions will be based largely on the reduction of debt, with some help from positive EBITDA. The expected growth in capacity in the United States is 16 percent, suggesting that the US is on track to match last year’s strong performance for M&A. Capacity in Asia Pacific is expected to increase by 19 percent and Europe 12 percent.
In terms of sectors, energy is expected to see the highest increase in M&A appetite during 2016, at 23 percent. Basic materials is at 12 percent and consumer staples at 6 percent. In terms of capacity, technology is anticipated to be the star performer, with an expected increase of 90 percent in M&A activity, as tech companies continue to increase their cash stockpiles.
Back here in Australia, one cloud on an otherwise sunny skyline is in my own specialist area of tax. We are noticing increasing anxiety over the use of complex multi-national structures, such as hybrids, to facilitate global investment. Companies are treading warily, given the likely tax reforms that will unfold both in Australia and elsewhere as a result of the OECD’s Base Erosion and Profit Shifting recommendations.
Concern over the growing differential in the Australian corporate tax rate compared to the majority of the developed world/OECD countries (with US the obvious exception) is also evident. While the domestic tax reform process seems currently in a state of uncertainty, we would still urge the government to try to find the wherewithal to make some inroads into our corporate tax rate. KPMG modelling for the Financial Services Council recently showed how a serious cut in the rate would lead to major economic benefits. It is not sufficiently understood how the benefits of company tax cuts flow more to employees than shareholders.
But, tax concerns and recent market jitters aside, our expectation is that M&A activity will remain robust in 2016. Companies have ample cash reserves and their desire for growth – coupled with consistent demand for quality opportunities from private equity sponsors – means the outlook is sunny.