With fewer big splashes, dealmakers turn the middle market spigot

October 25, 2017


Q3 2017 Deals Day findings

By John D. Potter, US Deals Sector Leader, @johndpotter

If the US deals market is a swimming pool, most people are dropping in for quick dip instead of lingering for several laps.

There are two big factors at play: uncertainty and prices. There’s still doubt surrounding the future of US taxes and trade policy, which may curb some appetites for big transactions. More than that, valuations for potential acquisition targets continue to climb, making buyers think twice about major moves.

The story across different parts of the market hits many of the same notes. High-value deals remain down from a year ago, but the number of deals overall is up. Through the third quarter, 2017 deal volume is up 14%¹ from last year, while the number of megadeals – those worth more than $5 billion – is down 28%. The trend is the same for both corporate buyers and private equity, and it probably explains why certain huge deals have generated a lot of headlines: There aren’t as many other megadeals to grab attention away.

At the same time, middle market M&A – deals with a value of less than $1 billion – continues to be up in both value and volume (both up more than 10%) in 2017. That shows us that many companies anticipate gains from more modest deals, which still can help transform an enterprise.

Even with that performance, the question now is if the peak in overall deal value that we saw in 2015 will recede further into the distance or if the steady pace of deals, combined with other factors, could eventually include not just a return of megadeals but the arrival of even larger deals.

The industry landscape

Until then, aggregate deal values are down across most sectors. Aside from a few headlines involving well-known brands, big transactions have been mostly on hold in industries ranging from technology to industrial manufacturing.

Through the first nine months of the year, the energy sector saw the most megadeals – roughly one out of every four. Yet the number of megadeals is down from previous quarters. In addition, transactions by energy and power companies have been only 6% of 2017 deal volume, as the sector remains under pressure from low oil prices, and potential acquisitions are challenged by a gap in valuations. But those same low prices could benefit other sectors, such as industrial products, by freeing up money for companies to invest elsewhere.


Pharmaceuticals and life sciences also saw a handful of high-value deals, but activity on the whole is down from a year ago. That may change in the months ahead, with pent-up demand leading some companies to explore where they can deploy large cash balances. For instance, growth in the medical technology subsector could spur bigger deals.

Media and telecommunications are faring somewhat better. The third quarter posted the highest deal volume in two years, while deal value was up significantly from a year ago. M&A activity in that sector has been spurred in part by a lighter hand from the FCC. Meanwhile, TV networks and other entertainment companies continue to explore deals that will enable them to connect with consumers in new ways.

The consumer markets sector also has seen higher volume and value overall this year, although activity has slowed after a torrid first half. The third quarter saw fewer megadeals than in each the previous quarters, contributing to a drop in value from the third quarter last year, while volume was essentially the same. Reimagination is a theme PwC’s US Deals Leader Bob Saada raised last week, and consumer markets is where I think we’ll see the most creativity.  The sector still remains on track for a better year than 2016, with deals driven by a favorable financing environment, healthy cash balances, a competitive retail market and e-commerce growth.

The US is still the most attractive global market

While new legislative and regulatory initiatives could make M&A more appealing, dealmakers haven’t been waiting for significant changes to invest in the US. In the pharma sector, for instance, eight of the top 10 acquisitions by value in the third quarter were of US companies.

Amid trade policy uncertainty, cross-border deals continue to happen, although traffic has been somewhat skewed in one direction. Cross-border deal volume is up 5% compared to this point last year, with slightly more outbound deals than inbound deals. But that gap has closed. Through the third quarter of 2016, the outbound-inbound split was 56%-44%; in the same period this year, it was 53%-47%. That begs the question of if traffic will eventually flip, with interest in US targets by foreign buyers outpacing that of US buyers in acquisitions abroad.

 

Acquisitions of US companies already are moving at a brisk pace, with inbound cross-border deals up 15% compared to a year ago. Sometimes, as in the power and utilities sector, changing industry dynamics present opportunities for foreign buyers. In other sectors, sovereign wealth funds are on the lookout for First World assets or buyers with more aggressive value generation plans.

 

It will be interesting to see how much of a role China plays in future cross-border deals. For instance, most of the top 10 industrial manufacturing deals this year have included either China or the US as a part of the transaction. None, however, included both China and the US.

The third quarter saw a Chinese-backed bid for a US semiconductor company blocked by President Trump, and the Chinese government has restricted investments in other industries. But strong interest remains in strategic investments that increase China’s access to new markets or enhance their companies’ competitiveness by bringing in advanced technology and expertise.

Looking toward year end

With the bulk of 2017 over and little in the way of substantive policy or regulatory change, there’s not much reason to expect the current cloudiness to abate anytime soon. Even if lawmakers bear down on tax reform and potential business benefits it could bring, the recent failed attempts to repeal the Affordable Care Act suggest slim odds of quick passage.

But as we’ve seen, corporate buyers aren’t dissuaded, and they likely will continue to pursue functional transactions that plug holes in their offerings, extend capabilities or add a complementary product or service. That could happen through acquisitions or strategic alliances and joint ventures, with the latter appealing to companies that want to assume less risk and financial exposure.

Conditions eventually could shift to restore transaction values on the same upward trajectory as volume. Until then, dealmakers are still finding transactions that make sense for both buyers and sellers, regardless of political dynamics or policy uncertainty.

For more information, please visit PwC Deals Industry Insights.

 

¹ All figures from Thomson Reuters with PwC analysis.


Related Links

Contacts

Bob Saada

US Deals Leader Tel: +1 (646) 471-7219 Email: bob.d.saada@pwc.com

Curt Moldenhauer

US Deals Solutions Leader Tel: +1 (408) 817 5726 Email: curt.moldenhauer@pwc.com