Takeover deals surged to pre-financial crisis levels in 2015 and are looking to be just as robust this year. Addressing the strong numbers and the outlook, bankers at a late 2015 NeuGroup Treasurers’ Group of Thirty-3 meeting discussed how companies are currently structuring deals and alternatives to consider.
Last year was the biggest year for M&A, with deals hitting $4.7 trillion, according to Dealogic. This far outpaces the $4.29 trillion from 2007. According to a survey by KPMG, executives continue to employ a “buy vs. build” mentality. According to the results, 91% of respondents said they intent to initiate one or more acquisitions in the next twelve months. Based on The NeuGroup’s own survey data ahead of the T30-3 meeting, 54% of member companies said they were seeking acquisitions, 50% of member companies recently had made an acquisition and 20% had been seeing external pressures from activists to deploy cash for M&A.
Deals in 2016 will also be significantly larger, experts predict, and volume will almost certainly surpass the 2007 record again. Up until the middle of 2015, acquirers’ stock prices popped 4 percent on average—but no longer. Because of high market valuations—15 to 18 times EBITDA—LBO sponsors have been sidelined by strategic buyers, although Carlyle Group recently did an $8.5 billion deal for Veritas. The M&A volume is also putting pressure on bank capacity, and banks, which have stepped aggressively into the term loan market, are pressuring corporates in turn to de-lever quickly once the deal is done (this was something Merck KGaA was able to accomplish recently with its acquisition of Sigma-Aldrich; good cash flow management allowed for “rapid deleveraging”). Also expect more aggressive bank solicitations to sell ancillary products, T30-3 members were told.
But of course, managements at companies don’t just wake up and decide to purchase a rival or a strategic fit company. Due diligence and deliberations on how to structure deals take months, not to mention creative thinking on structure. For instance, the Merck KGaA-Sigma Aldrich deal, which was lauded for its configuration, was 100% cash and debt financed, so no equity was involved. The treasury team secured bridge financing, with the final financing structure consisting of a mix of cash, bank loans and bonds.
At the T30-3 meeting, members were told some of the details of the financing for Avago’s $37 billion acquisition of Broadcom, of which $17 billion was cash and much of the rest in term-loan-B form. Purchased by institutional investors, the term loan B provided more flexibility than a traditional bridge loan, in which rising fees may force a borrower to access the high-yield market, whether conditions are favorable or not (more recently not). Instead, a more attractive form of capital can be tapped, or the bond market can be accessed later, or the term B can remain in place.
Another company, Computer Sciences, had debated taking either a bridge-to-bond or term loan B to support the spinoff of its government-services unit CSRA in 2015. Troubles in the high-yield market then pushed it to choose the latter, and the company’s treasurer was said to have aggressively pushed relationship banks to join the deal. This enabled the company to cut in half its term loan B to $750 million while increasing its term loan A by the same amount, resulting in significant savings.
There are some trade-offs using term loan B. Banks need amortization and maintenance covenants and typically won’t stretch beyond five years on term loan As. Institutions buying up term loan B credit need neither amortization nor covenants and will go out longer, but the spread will be 150 bps more. Institutions have very small baskets for unsecured debt, so term loan Bs typically must be secured. Banks will do crossover credits, such as a BB+ unsecured loans, but institutions will not.
Despite the structure of any one deal, investor pressure to pursue M&A isn’t going away anytime soon. Deals are getting bigger and inversions are back. Recent deals, including those by Avago and Computer Sciences, have opted for term loan B institutional loans rather than bridge-to-bond financings, because of the additional flexibility they provide.