M&A Dip Not As Bad As It Looks
If you just read the headlines, mergers-and-acquisitions data for the first quarter of 2016 suggest the sky is falling. Consider these statistics for the quarter, courtesy of Thomson Reuters:
• The number of announced deals worldwide fell to 9,251, down 10% and the lowest since the second quarter of 2013.
• Global deal volume dropped below $700 billion, down 18% from the year-ago period and more than 50% from announcements in the fourth quarter of 2015.
• U.S. merger volume fell 38% from a year earlier, pacing the global decline on a 24% reduction in the number of deals. U.S. merger activity declined about 70% from the fourth quarter of 2015.
Sounds pretty grim.
Historically, the Forecasts has advised readers against investing in companies solely because of merger scuttlebutt, and we put little weight on such factors in our analysis. But, in general, markets view high M&A activity as a bullish sign, reflecting executives' optimism about both their businesses and their ability to fund deals.
In addition, the collapse of a few high-profile merger deals — such as Pfizer ($34; PFE)/Allergan ($228; AGN), Canadian Pacific Railway ($129; CP)/Norfolk Southern ($83; NSC), and Halliburton ($42; HAL)/Baker Hughes ($46; BHI) — has some investors spooked. Regulators in the U.S. and overseas have stepped up their muscle-flexing.
However, first-quarter numbers probably overstate weakness in the merger market, and by extension corporate pessimism, for at least three reasons:
1) M&A numbers tend to be lumpy from quarter to quarter, and the first quarter is usually seasonally light. Don't rush to extrapolate a trend.
2) U.S. announced deals topped $1.3 trillion in the second half of 2015, accounting for more than 50% of global merger activity. While the U.S. remains by far the world's biggest M&A player, it doesn't usually grab so large a share; in the previous eight quarters, U.S. mergers averaged 43% of the global total. In the first quarter of 2016, the U.S. share fell to 35%, a level not seen in at least three years.
3) Given the blowout late last year, we should expect some merger fatigue in the U.S. However, U.S. firms remain flush with cash and tempted by low-cost credit. Assuming profit growth improves this year, as the consensus projects, merger announcements could pick up in the second half of the year. In addition, the issuance of high-yield debt has picked up in recent weeks, bouncing back from a near shutdown earlier this year and creating an easier environment for acquirers.
Outside the U.S., merger volume was flat in the first quarter, with the deal count down 5%. European firms announced $189 billion in mergers (27% of the global total), up nearly 12% from a year earlier, while Japanese deals more than doubled to $27 billion (4%). Given the recent weakness of the European and Japanese economies, we find the rise in acquisition announcements encouraging.
Our conclusion: The combination of first-quarter weakness and more vigilant antitrust regulators suggests the M&A arrow probably points down. But the news isn't universally bad, and we'd like to see what happens in the next few months before writing off 2016 as a bad year for mergers.