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Learning from the M&A rollercoaster of the last decade

26-Aug-2010

Learning from the M&A rollercoaster of the last decade
While the roller coaster ride from recovery to growth was exhilarating during the middle of the last decade, as we look back from mid 2008 through the end of 2009 (an 18 month period), what stands out is the extraordinary drop and economic devastation we experienced.

The Tech bubble crash of 10 years ago is now only a distant memory, as is the economic turmoil that followed the infamous 9/11 attacks. As a new decade dawns in a period of recovery; we’re a little older, but still a little “shell shocked”. Hopefully as we go forward, we’ve become more realistic with our “Great Expectations” for the decade ahead. The roller coaster we experienced over the last 10 years has perhaps stopped for the moment, but only long enough to allow some brave souls to get on and others to get off. As it is starting up again, what were the significant trends in Mergers & Acquisition activities of the last decade that might help us project how to better handle the ride ahead?

Historical Trend 1 – The emergence of Private Equity Groups (PEGs) fuelling M&A activity in the lower middle market (companies valued under $50m).

With their optimism of internal ROIs rising on deals and having averaged close to 10% in 2000 and 2001, PEGs went on a buying spree (with access to plenty of financial leverage), peaking in 2007. Pitchbook reported that collectively PEGs invested only $36B in 2002 with 50% of those deals completed for transaction amounts under $50m. By 2007, $575B had been invested in acquisitions with 60% of the deals done in the under $50m range. Although the average deal size exploded to a whopping $204.3m in ’07, it crashed back to reality and closed the decade around 2002 levels. ($43.9m average deal size in ’09 with 50% of the completed deals in the under $50m range once again). What a difference a couple of years make as evidenced by this roller coaster of activity!

Historical Trend 2 – M&A activities over the last decade resulted in negative ROIs.

Recently, a McKinsey study analyzed data from all public deals from 2000 - 20009 and concluded that on average, 62% of acquirers overpaid for the deals they triggered. Pitchbook reported that Private Equity deals collectively have been on a steep downhill slide since 2005, with ROIs ranging in the minus 20% to minus 50% range and beyond. This goes to show that these deals had too high a price multiple. They proved unsustainable and as such, business owners should be guarded in expecting a return to that level anytime in the near future, if ever again. What gave rise to much of this historical M&A activity at high valuations was that strategic acquirers always were prepared to pay more thinking that integrating acquired companies quickly could capture the maximum possible synergies. With credit widely available, it was also believed that a growth through acquisition strategy would be much easier and quicker to achieve than typical organic growth.

History tends to repeat itself, but with a twist.

Perhaps the decline in M&A deal values from the peak years around 2007 was not so much the establishment of a “new normal”, than it was a return to historic trends experienced in the 1980s and 1990s, when the then disappearance of cheap credit, led to a similar decline in leveraged buyouts. If the trend continues for a fourth consecutive decade, the roller coaster will also roll once again. We see M&A activity picking up nicely to start this new decade, and the trends indicate that the peak buying period is likely to occur again from 2015-2017; but what will be the twist or different in this decade?

Over the last several decades, the productivity boost that we got from China and India providing goods and services to us at very low cost created tremendous excess global liquidity that went into investable assets needing a place to generate returns. This contributed to starting the chain of economic events that I have characterized as a roller coaster. All of a sudden, developed markets understood the interconnectedness of a global economy. Anything that resembled the old models, no longer worked. Now that we’ve learned that everybody is completely intertwined, the twist it that we are having to develop a whole new model.

Rather than watch the M&A roller coaster from a far, many more Chinese investors will be stepping up to enjoy the ride ahead.

McKinsey recently studied Asian M&A deals completed over the last decade, to determine the disclosed rationale behind these transactions. 50% claimed that expansion into new markets including a new geography, an adjacent business line, or related business areas was the rationale supporting the deal. Another 20% stated that it was the acquisition of a new organizational capability, and for 18%, the rationale was to access scarce resources, and create vertical integration to ensure security of supply, or both. Ten years ago, a mere 10% of all global M& A activity was initiated in the Asia-Pacific region. From 2007 through 2009, the Asia-Pacific region accounting for 26% of all global M&A activity, which was a significant increase in closing the last decade.

Chinese investors are well aware that good deals are to be had in this part of the world, and they have accumulated plenty of “dry powder” or capital which is ready to be deployed. They are patient and are looking aggressively for accretive deals. It is expected that the M&A roller coaster will start up slowly but build over the decade ahead, being once again fuelled by leveraged deal activity being stimulated by the addition of new Chinese investors. What this means for North American companies who wish to be active “sell-side” participants on this decade’s new ride will be the subject for Part Two of this article to be released next month.

About Stephen Reisler Stephen is a partner in ROCG Montreal office and a certified Certified Merger & Acquisition Advisor. Visit Stephen's bio to learn more.

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