Our H1 2016 update
US Leads the Market
Financial Institutions Sector
M&A Trends and the Focus on FinTech
Navigating political risks in growth markets
Download the H1 2016 update
Cross-border M&A investment flows
A Focus on Infrastructure
Infrastructure M&A market is maturing
Financing the Mega-deals
Our H1 Update
2016: The story so far
Global M&A has stalled in the first half of 2016 with deal values down to their lowest levels in three years. Against a backdrop of geo-political change and uncertainty, many investors and bidders have adopted a more cautious outlook to growth. The outcome of the UK's referendum on leaving the European Union has further impacted sentiment, sending shockwaves through the global financial markets. The upcoming US presidential elections will only serve to heighten the uncertainty and volatility in the markets over the coming months and neither is helpful in an M&A context.
Having said that, we are seeing a strong level of activity in certain regions and sectors. The US continues to be a buoyant market, and Chinese M&A by value has seen its largest half year on record, with the value of outbound deals in the first half of 2016 almost eclipsing the total in 2015. There has also been increased activity in the TMT sector with many deals among some of the household tech giants now coming to fruition.
Looking to the second half of the year, we expect more strategic opportunities will flow from these tumultuous times, as companies look to capitalise on favourable valuations and currency movements. Recent offers for Poundland, Odeon and UCI Cinemas, and ARM Holdings in the UK already point to acquisitive interest from overseas buyers benefitting from Sterling weakness. As ever, we stand ready globally to guide and support our clients in this turbulent economic and political environment. Guy Norman, Global Head of Corporate, Clifford Chance LLP
“Chinese companies are playing an increasingly active role in global M&A, with many seeking to develop a more global footprint. With the slowdown in the domestic economy in China and overcapacity in some sectors Chinese companies are increasingly investing overseas. We have seen a focus on European and US targets for Chinese outbound during the first half of this year. At the same time, Chinese central government initiatives such as "One Belt, One Road" are spurring investments along the Silk Road between China and Europe, particularly in infrastructure. This increase in outbound investment has been assisted by accessible financing for corporates from Chinese banks.”Terence Foo, M&A Partner, Beijing
“TMT will continue to be a hot sector in the second half of 2016. The start of the year has produced a number of seminal transactions already, including Microsoft/LinkedIn, Blue Coat/Symantec and IHS/Markit. Looking forward, both the US tech majors (such as Alphabet, Microsoft and Amazon) and the Chinese giants, which are increasingly looking at international expansion, will continue to demonstrate a willingness to make acquisitions. If the current trend continues, 2016 will be a stellar year for tech M&A.”Joachim Fleury, TMT M&A Partner, London
M&A opportunities in the UK as a result of Brexit
“While European M&A by value is down year on year for the first half of 2016 there are opportunities to be found in the market turmoil. For UK inbound M&A, there are opportunities for bidders - particularly from Asia Pacific - to capitalise on favourable valuations. Globally private equity firms are sitting on large amounts of available cash, much of which recently raised, and the current climate will suit US$ denominated firms and sovereign wealth funds investing in the UK and Europe who will look to take advantage of depressed currencies. Although the impact of the Brexit referendum on UK financial services will play out over time, we may see some divestments of non-core assets.”Mark Poulton, Head of Corporate, London
Financial Services M&A is being stimulated by disruptive technologies which are changing the way consumers interact with financial services businesses. The sector also continues to be influenced by consolidation activity and regulatory changes.
Banking and Asset Management
- Global banks have been analysing the value of their presence in national markets around the world with a renewed focus on strong markets and a desire to divest non-core assets.
- Disposals in emerging and low-volume markets have been driven by localised economic, political and regulatory factors.
- Interest in retail bank acquisitions has arisen from opportunistic buyers seeking to take advantage of post-recession changes in bank ownership (such as re-privatisations) and improvements in credit quality.
- Wealth management continues to be an area of activity with a number of major institutions adjusting their focus towards it, whilst others are existing businesses which are sub-scale.
- Private equity houses and financial services aggregators from both developed and emerging markets are increasingly acquisitive across the sector.
- Changing regulations and business environment issues such as a possible Brexit mean that institutions continue to explore corporate re-organisations.
Spotlight: the focus on FinTech
- We are seeing numerous strategic direct investments in, and acquisitions of, technology start ups. Financial institutions focused on competing with FinTech businesses, and companies operating in other industries investing in technologies and platforms with a financial services aspect which are often complementary to their principal businesses (e.g. social media networks investing in P2P payment arrangements, online consumer retail businesses investing in supplier finance platforms, etc), are driving this activity.
- With regulators across the US, Asia Pacific and Europe introducing new policies and establishing new supervisory teams designed to facilitate the launch and expansion of start-ups undertaking regulated activities, investment and M&A opportunities in the FinTech sector are expected to continue to increase.
- For companies across non-FIG sectors, the move into FinTech is typically causing them to be subject to financial regulation for the first time – for them, understanding this regulation and leveraging opportunities to operate under regulatory-lite frameworks if available, is key.
- Many financial institutions, who have traditionally not been technology-focused, are learning to understand the value of technology assets, and how they are protected and leveraged, as they transition from being financial institutions into being (to a greater or lesser extent) technology companies also.
“As financial institutions and corporates seek to integrate specialist tech enterprises into their traditional business lines, the focus of diligence has shifted towards financial regulatory compliance, data protection, cybersecurity, licensing software, use of big data, and the protection and leveraging of IP rights.”Melissa Ng, M&A Partner, Singapore
The maturing Infrastructure M&A market is highlighted by new investors, an increase in the number of funds being raised and a corresponding increase in the capital available. This trend is punctuated by rapidly increasing deal values.
Our expectations for 2016
Huge amount of capital available for investment – We are seeing strong fundraising by traditional infrastructure funds and massive amounts of dry powder available to direct investors.
Increased volume of secondary transactions – a sign of a maturing market, these will comprise a significant proportion of total deals in 2016 as funds take advantage of seller-friendly conditions as they exit investments made in the mid to late 2000s.
Increased competition for non-core assets – Competition for ‘core’ infrastructure, such as water utilities and energy distribution assets (e.g. acquisition of Australia’s TransGrid), is driving down returns and encouraging infrastructure investors to look harder at ‘non-core’ infrastructure and at less mature markets. This is particularly true of traditional infrastructure funds, who typically require higher returns than direct investors. Funds are forced to take greater risk in order to achieve target returns and are now chasing core-plus assets.
More partnerships – Regulatory risk will remain high on the agenda for infrastructure investors and we see an increased number of partnerships between infrastructure funds – who provide capital – and industrial firms – who bring expertise.
Platform investments – these offer steady transactions for funds to deploy capital and risk sharing with other investors or industrial partners and will continue to be popular. For example, OTPP, PSP and Santander’s joint venture into Cubico Sustainable Investments, which targets renewable energy projects, particularly in Europe and Latin America.
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“We are seeing fierce competition for infrastructure assets resulting in higher prices with corresponding pressure on returns. This is a result of the dramatic increase in the number of investors targeting the sector – particularly ‘direct investors’, such as pension funds and insurers, who previously invested through funds – and the amount of capital allocated to infrastructure investment. Favourable credit markets and greater use of non-bank debt financing are having an impact.”Brendan Moylan, Infrastructure M&A Partner, London
In spite of the slowdown in many emerging markets, companies still view these markets as interesting opportunities. The shifting sanctions landscape that tends to impact emerging markets requires vigilance
2015 has seen the continued use of sanctions as a foreign policy tool often aimed at regimes in emerging market economies. A particular feature of 2015, however, was the international policy shift in relation to Iran following the Joint Comprehensive Plan of Action agreed between Iran, the P5+1 and the EU in July 2015. With effect from Implementation Day (16 January 2016), there was a significant easing of existing sanctions and, consequently, 2016 is expected to offer much greater opportunity for those wishing to invest in or trade with Iran, provided the residual sanctions risks are manageable.
Companies exploring possibilities resulting from these and other sanctions changes will need to tread carefully, however, as they navigate the compliance challenges thrown up by differences in international frameworks and enforcement trends. Sanctions due diligence and appropriate contractual protections will assist in mitigating risk.
This is vital in relation to Iran in particular where European sanctions relief will be much more significant than that in the US, with much Iranian business remaining off limits for US entities. This means that non-US firms may have a ‘head start’ on entering newly available Iranian markets, if they are comfortable with managing any residual US sanctions risk.
Companies seeking financing in markets subject to sanctions risk will continue to face the stringent demands of banks that require thorough sanctions due diligence and assurances. Sanctions will be an early consideration in many transaction processes.
Spotlight: practical considerations in relation to Iran
- Extensive due diligence on any counterparties in Iran or that have significant Iranian interests.
- ‘Snap back’ risk – sanctions could be re-imposed by the US and/or the EU if Iran fails to meet its nuclear obligations. Wherever possible, contractual and joint venture arrangements should provide for this risk – but it will be interesting to see how willing Iranian counterparties will be to including such provisions.
- Protections for foreign companies – those acquiring companies/assets in Iran should seek to mitigate the risk of sanctions being re-imposed between signing and completion of any deal.
- Vigilance – all companies considering Iranian business need to be vigilant to identify and address US sanctions risks that can arise from involving US person employees or other US elements in transactions.
Mega-deals are being driven by synergies and abundant finance. 2015’s mega deals were supported by the highly liquid debt markets and costs of debt financing at historic lows. The anatomy of a jumbo financing can be complex, and financing sources and structures differ across the global M&A landscape
Mega-deals: preparation is key
- Jumbo financings have helped facilitate mega M&A deals (such as the US$ 75bn financing for AB InBev/SABMiller)
- Relationship banks with sufficient capacity for the deal are critical.
- Depth in the capital markets for the take out is essential
“The importance of planning and timing the implementation of a deal of such size cannot be stressed enough.”
Peter Dahlen, Finance Partner, London
Borrowers: demand for flexibility
- Strong borrowers are seeking more flexible terms
- US regulators express concern as leverage terms are relaxed in buoyant markets
- Liquid markets are seeing looser terms, including larger thresholds in corporate M&A and increasing flexibility for incremental, additional and replacement debt in leveraged deals
Finance: more options?
- Outbound M&A has stepped up in Asia (e.g. ChemChina/Pirelli, Mitsui Sumitomo/Amlin)
- Cash in the business and bank loans are staple financing sources for Asian M&A. However there is growing interest in other sources such as high yield
“We continue to see Chinese banks assuming more active and prominent roles in financing for mega deals, and a willingness to go beyond the traditional approach of relying on the corporate credit of the Chinese parent.”
Maggie Lo, Finance Partner, Hong Kong
US activity continues to drive global M&A levels, with significant rises in both domestic and cross-border inbound investment (up 62% in year to December 2015). In addition to other strategic drivers, tax efficiencies are playing a critical role in US transactions. High-profile inversion deals and tax-driven transactions represent a significant portion of US activity.
- Tax savings can be a fundamental driver in US M&A deals. Corporate inversions are the most visible examples of US companies’ focus on tax savings across a range of deals. We are also seeing other high-profile, highly tax-structured transactions, including for example spin-offs and asset sales by companies that are seeking to unlock value, often in response to pressure from activist investors. Some notable deals are below.
- The US tax landscape is continuously shifting – for inversions, and also for spin-offs, asset dispositions, and other tax-structured transactions. The shifts may reduce tax savings on some deals but also may create new opportunities going forward.
- In April 2016, the US Treasury and IRS issued temporary and proposed regulations that make it harder to successfully complete an inversion transaction, and make it harder for a US company to derive tax benefits by issuing debt to non-US affiliates. Since then, a number of previously announced inversion transactions (including the Pfizer/Allergan transaction) have been called off. The new rules are extremely broad, and could have a significant impact on many international corporate groups even in the absence of an inversion transaction. For more information, see our client alerter, available here.
Case study: Yahoo/Alibaba
- A sale of Yahoo’s 15% stake in Alibaba would result in a huge US corporate tax bill.
- When Yahoo announced a spin-off of the stake in a tax-free transaction, its share price rose 8%.
- The IRS then declared a review of such transactions. Yahoo deemed the risk of pursuing the spin-off as too high and decided not to pursue it.
- Yahoo is now considering a spin-off of its main businesses (potentially a tax-free transaction), leaving behind the Alibaba stake in the Yahoo corporate shell.
Case study: corporate real estate
- Operating companies with large real estate holdings (e.g., hotels (Hilton), retailers (Sears), restaurant chains (Darden)) have been placing real estate assets in holding companies and spinning them off to shareholders in tax-free transactions.
- The spun-off company would often obtain favourable financing terms and until recently would qualify as a REIT for US tax purposes.
- Congress passed a law in late 2015 generally denying REIT status. The spin-off is still tax-free and the financing benefits remain. Other structures may also be explored in the future to achieve similar results.