Recently the financial newspapers have been dealing with important mergers and acquisitions (in financial jargon: M&A, which stands for Mergers & Acquisitions) between large industrial groups: from the exchange of assets between Novartis-GlaxoSmithKline to Pfizer's offers for AstraZeneca and General Electric for Alstom (the latter proposal rejected on May 5 by the French Finance Minister Montebourg).
But what are these operations? Is this good news for the financial markets? And for savers? Let's start with the basics.
What are M&A operations
M&A transactions are extraordinary finance transactions that allow company A (also called acquirer) to merge with company B (called target) giving life to a new entity (in the case of a merger); or to company A to buy a whole company or "pieces" of the target company's assets (this is the case of a takeover).
There is nothing strange in any of this. Indeed, these are operations carried out with a certain regularity and are part of a normal growth strategy, as they allow for example to:
1 expand into other markets;
2 acquire a technology or a product;
3 increase the critical mass (turnover, margins, profits);
4 eliminate a possible competitor (by incorporating him);
5 obtain high financial benefits.
The impact on savers
But what do investors gain from these operations? We are not talking only about big investors, but also about small savers.
Apparently, you earn little or nothing if you invest in the acquirer. The results of academic research differ according to the historical period analyzed and the definition of value, but most of the studies that analyze the phenomenon over long historical series (usually since 1985) seem to converge on one conclusion: on average M&A operations they do not create value (indeed they often reduce it) for the shareholders of the buyer (acquirer); on the contrary, they increase the value of the shares of the acquired company (target).
This doesn't mean that there aren't companies that have created value for their shareholders when they decided to embark on this type of operation. Only, not all companies are able to handle this process well. In fact, the most common errors are essentially two:
1 overestimate future synergies;
2 paying too high a purchase/merger price.
If you think about it, there's nothing new in all of this, it also happens when you evaluate stocks and sectors. Again, paying the right price for value seems to play a key role.
What is happening on the financial markets?
Since the beginning of the year, global deals have been concluded for a total amount of $200 billion and others are under discussion, for a further $780 billion. Experience teaches us that overconfidence can lead investors and companies to overestimate the expected return on an investment.
Since M&A transactions are typical of a bullish and growing stock market, some are wondering if this wave of deals is not excessive. I don't find anything strange about it: financing is cheap (interest rates and bond yields are low), stock market valuations are not excessive, quarterly results overall go in the right direction, companies are full of liquidity and there is a lot of desire to grow.
Furthermore, we are only at the beginning of an M&A phase which is far from that of 2005-2007: just look at the deal volume in the graph.
Furthermore, according to Bloomberg, the average price paid by the acquiring companies is 17% lower than the market valuation of the target.
In short, for the moment the purchase prices appear to be reasonable, which could bode well for investors.
How to invest?
As we have written here and here, for us at Advise Only there is no speculative bubble on the stock market: the P/E are far from truly worrying levels. Conversely, we continue to favor equities as an asset class. However, we are aware of the risks that the global scenario presents and, for this reason, we favor a prudent and well diversified attitude.
