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Corporate sector poised to break private equity siege on M&A16/08/2006. Source: KPMG. 
 KPMG's Global M&A Predictor says that a window of opportunity exists in the next year for some of the world’s leading companies to execute strategic deals and push global merger and acquisition value levels well beyond the record set in 2000.
The forecast is based on a detailed analysis of KPMG’s Global 1,000 - a forward looking index of 1,000 leading companies’ net debt to EBITDA ratios and price to earnings ratios.
KPMG’s Global M&A Predictor suggests that deal fatigue appears to be a feature as evidenced by falling PE valuations. However, Dealogic data reveals that deal numbers are up on the previous six months and given current benign debt market conditions combined with sound corporate balance sheets, KPMG predicts further increases in activity albeit at a slower rate. It is anticipated that M&A activity could then plateau in 2007.
Whilst the ability of companies to raise debt remains strong and prices look some way off their peak, KPMG suggests that there is an important window of opportunity for 'intelligent deals' to be done by corporates, which could break the recent siege laid to the world's M&A markets by private equity houses and hedge funds. In KPMG’s view, greater M&A deal volumes and values could be fuelled by a number of key factors currently being observed by KPMG member firms’ corporate finance advisory teams:
- Corporate balance sheets appear to be healthier than ever before – illustrated by a solid net debt to EBITDA ratio of 1.0x globally.
- Corporate earnings expectations remain positive.
- In sharp contrast to private equity and consumer borrowing, the majority of corporates are conservatively financed.
- Liquidity in the debt market is very high and debt pricing remains competitive, illustrating a continuing appetite to lend.
- An overstretched private equity sector – in which some players are leveraging up to 11x debt to EBITDA- may now look to deliver more joint deals with corporates in order to secure better operational benefits.
- The global macro-economic environment is positive, with major money markets benefiting from a period of relative political stability.
- Dealogic data shows six successive increases in half-yearly global M&A.
KPMG believes that the corporate sector should take advantage of this unusual environment before underlying trends take hold which could result in a deal activity plateau in the second half of 2007.
Stephen Barrett, International Chairman of KPMG’s Corporate Finance practice, commented, 'Despite early signs that the pace of global M&A activity is close to peaking, KPMG’s Global M&A Predictor suggests that there is still considerable scope for corporates to forge intelligent deals, before the cycle takes a pause for breath and plateaus for a period.'
'Corporate confidence is high, balance sheets are strong and, given the astute management of the corporate sector, there is plenty of room for corporates to drive further growth in profits from revenue and cost synergies. In addition, macro-economic conditions are favourable.'
'Now could be the right time for any corporate willing to take first mover advantage and do the intelligent deal.'
Chris Stirling, partner, Transaction Services practice, added, 'The emergence of joint deals between private equity and corporates shows an interesting trend that is likely to accelerate as a way of mitigating risk and enhancing value. For a corporate, partnering with private equity may reduce a financing burden. For private equity, partnering with the trade potentially extracts greater value from an investment better understood by an industry player.'
Forecast M&A activity by world region
Analysis by KPMG’s Global M&A Predictor on a regional basis suggests that M&A activity in the three major world regions – Asia Pacific, Europe and the Americas – should continue rising in the short term before the global M&A cycle continues towards a plateau in the second half of 2007.
In support of this, KPMG’s analysis shows that – despite recent signs of bid fatigue as forward-looking valuations of its Global 1,000 fell (from 17.7x to 16.8x over the past six months) and balance sheets tightened – deal trends are likely to be driven up in the medium term albeit at a slower rate.
Europe
Europe has held up relatively well during the last six months, compared to the other major regions, with forward PE valuations down only slightly from 14.9x six months ago to 14.6x suggesting continued appetite for deals. Net debt to EBITDA underwent the most significant rise of the key regions from 0.7x six months ago to 0.9x - although this level still indicates significant debt capacity.
Within the region, the strong sector performer was utilities up from a PE of 13.8x six months ago to 15x, with consumer goods and healthcare slipping back the most, due to the continued muted consumer environment. Net debt to EBITDA rose from 0.7x six months ago to 0.9x, with industrials and consumer goods rising the most, contrasting with utilities which continued to strengthen its balance sheets through continued non-core asset sales.
Dealogic data showed that deal values in Europe rose for the sixth successive half-year period, but the volume of deals rose only marginally from the second half of 2005. This latter development, combined with low relative, stable, valuations, and more highly leveraged balance sheets than six months ago, suggests that bid activity in this “slower growth” region could be stalling.
Stephen Barrett commented, "KPMG continues to believe that Europe has the positive fundamentals required for further M&A activity. Whilst private equity has been instrumental in returning M&A activity to the strong levels observed at the start of the century, we are now seeing corporates regain confidence for strategic bids. This is particularly true in Germany which has seen a recent string of overseas acquisitions. With pressure from globalisation persisting, European players will continue to look abroad for new market opportunities and the buoyant economies of Russia and Central and Eastern Europe are likely to be key drivers.”
The Americas
In the US, forward PE valuations fell from 18.9x six months ago to 17.6x, with Basic Materials and Technology the biggest fallers (PE of 16.7x from 17.9x, and 21.8x from 25.2x respectively). In contrast, Consumer Goods and Consumer Services held up well, with Oil & Gas rising, helped by the deal activity in the first half of the year. Net debt to EBITDA rose from 0.8x six months ago to 0.9x, with all sectors seeing balance sheets deteriorate marginally. Industrial is the most highly indebted with KPMG forecasting a net debt to EBITDA ratio of over 3x.
Asia Pacific
KPMG’s Global 1,000 data shows that Asia Pacific’s forward PE valuation fell from 21.2x six months ago to 18.9x, with net debt to EBITDA (a measure of a companies’ extent of financial leverage) rising from 1.0x six months ago to 1.2x. When viewed alongside falling global private equity valuations and moderately tightened balance sheets, this suggests that deal activity is slowing at present.
Stephen Barrett commented, 'The fall-back in equity valuations over the past six months, as evidenced in KPMG’s Global 1,000, is possibly a kick back by private equity funds against aggressive vendor pricing, with a more realistic price for assets now being set. Once equilibrium is reached, we envisage a re-acceleration in the volume of deals being carried out.'
'The recent round of private equity fundraising has reinforced the firepower at the disposal of some of the world’s leading private equity houses, but we believe that conditions over the next year are ideal for a corporate fight back.'
'KPMG recommends companies consider using their balance sheet in more imaginative ways to fund M&A activity. CEOs and CFOs should look for financial and operational flexibility and explore the innovative financing options pursued most recently by those in the retail and property sectors. KPMG expects to see more of these intelligent deals from many of the world’s leading companies as benign market conditions for corporate M&A continue to prevail.'
KPMG is the global network of professional services firms who provide audit, tax and advisory services. KPMG LLP operates from 22 offices across the UK with 9,000 partners and staff. KPMG recorded a UK fee income of £1,066 million in the year ended September 2004. KPMG LLP, a UK limited liability partnership, is the UK member firm of KPMG International, a Swiss cooperative.
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