Buyouts and Mergers Are in the Works, But Is the Return Worth the Risk?

Agenda-Setting Financial Insight.
Sept. 17 2012 3:41 PM

Buyouts and Mergers Are in the Works, But Is the Return Worth the Risk?

Glencore is pursuing Xstrada in an unstable financial climate.

Photo by FABRICE COFFRINI/AFP/Getty Images

Cheap money. Tick. Stable equity markets. Tick. Revenue pressure. Tick. Ideal conditions for a boom in mergers and acquisitions, surely? Spirits seem to be stirring in Europe, of all places, with BAE’s attempted union with defence peer EADS and Glencore’s heated pursuit of fellow miner Xstrata, while August generated a handful of multi-billion dollar U.S. deals. But not all the ingredients are in place to cook up a deal feast.

Financial conditions are certainly propitious for companies to take on debt and buy equity. Real policy interest rates are negative and shares are cheap enough that many companies offer cashflow yields higher than the interest rate on debt financing. As yet, though, the equity of choice for companies has been their own. Buybacks are buoyant, while global M&A volumes are down 17 percent year-to-date, including falls of 28 percent in the United States and 15 percent in Europe, according to Thomson Reuters data.


Adversity might encourage boldness. China’s growth is slowing, the U.S. recovery remains a work in progress and Europe’s has barely begun. That argues for deals to build scale, cut costs and obtain greater leverage in procurement - key, although not sole, drivers of the BAE-EADS talks. And assuming recovery is only deferred, now is the moment to buy capacity on the cheap. Building it is costlier and riskier.

So why are deal volumes so low? Because financing and logic aren’t enough. Chief executives, boards and investors all need to believe that deals offer more return than risk. That confidence is lacking. The Philadelphia Fed’s latest Business Outlook survey reported less optimism than in July. Shareholders are inclined to punish companies for increasing leverage.

Europe’s big deals give a false signal. Both have been in the works for ages - BAE-EADS from the late-1990s and Glencore’s since its holding in Xstrata became a large part of the trader-miner’s value. Besides, a deal would actually deleverage Glencore’s balance sheet.

A minority buyout here, a long-mooted merger there - deals will happen. But bankers shouldn’t spend the bonus yet.

Chris returned to Breakingviews in November 2008 from the Financial Times, where he was Senior Corporate Reporter and then Investment Banking Correspondent, and an occasional editor of the Lombard column on issues facing UK business.



More Than Scottish Pride

Scotland’s referendum isn’t about nationalism. It’s about a system that failed, and a new generation looking to take a chance on itself. 

What Charles Barkley Gets Wrong About Corporal Punishment and Black Culture

Why Greenland’s “Dark Snow” Should Worry You

Three Talented Actresses in Three Terrible New Shows

Why Do Some People See the Virgin Mary in Grilled Cheese?

The science that explains the human need to find meaning in coincidences.


Happy Constitution Day!

Too bad it’s almost certainly unconstitutional.

Is It Worth Paying Full Price for the iPhone 6 to Keep Your Unlimited Data Plan? We Crunch the Numbers.

What to Do if You Literally Get a Bug in Your Ear

  News & Politics
Sept. 16 2014 7:03 PM Kansas Secretary of State Loses Battle to Protect Senator From Tough Race
Sept. 16 2014 4:16 PM The iPhone 6 Marks a Fresh Chance for Wireless Carriers to Kill Your Unlimited Data
The Eye
Sept. 16 2014 12:20 PM These Outdoor Cat Shelters Have More Style Than the Average Home
  Double X
The XX Factor
Sept. 15 2014 3:31 PM My Year As an Abortion Doula
  Slate Plus
Slate Plus Video
Sept. 16 2014 2:06 PM A Farewell From Emily Bazelon The former senior editor talks about her very first Slate pitch and says goodbye to the magazine.
Brow Beat
Sept. 16 2014 8:43 PM This 17-Minute Tribute to David Fincher Is the Perfect Preparation for Gone Girl
Future Tense
Sept. 16 2014 6:40 PM This iPhone 6 Feature Will Change Weather Forecasting
  Health & Science
Medical Examiner
Sept. 16 2014 11:46 PM The Scariest Campfire Story More horrifying than bears, snakes, or hook-handed killers.
Sports Nut
Sept. 15 2014 9:05 PM Giving Up on Goodell How the NFL lost the trust of its most loyal reporters.