Australian market prospects: Clear roads ahead?

As noted in part one of this survey, a number of factors look likely to boost merger and acquisition and private equity activity in Australia and New Zealand. These include broad economic strength unsurpassed in the Western world, sound and solvent banks, and a still-plentiful supply of pension fund money, plus a credit supply-and-demand imbalance, and a slackening of last year’s torrid public equity upsurge. And to some extent, the rebound is already under way.

The metrics

First, by way of context, there’s no argument that the aggregate value of ANZ M&A deals slipped year-on-year between 2008 and 2009, except in the inbound segment. But the number of transactions rose across the board.

Domestically, a total of $58.9 billion was transacted via 779 deals (604 disclosed) in 2008 (all figures USD). A year later that figure had shrunk to $38.6 billion through 1,012 (765) deals.

Outbound aggregate deal value, by comparison, was pegged at $6.9 billion in 2008, from 144 (116) transactions. And the value slippage in 2009 was more modest, down to $5.6 billion via 161 (92) transactions. On the inbound side, however, aggregate value nearly doubled – to $41.6 billion in 2009 on the strength of 382 (312) deals, compared to $25.1 billion from 270 (207) deals a year earlier.

It must be noted, however, that a brace of huge infrastructure transactions (Canada Pension Plan Investment Board/Ontario Teachers acquisition of Transurban Group, and CPPIB’s separate buy into Macquarie Communications Infrastructure) had a heavy impact on this outcome. Other inbound investments from China, Japan and Switzerland were much smaller.

The main consensus, however, is that a turning point for M&A may have been reached, with conditions now pointing to more activity ahead.

Recent M&A: solid, if not spectacular

UBS head of ANZ M&A, Anthony Sweetman, offers this perspective:

“Last year, M&A activity was completely overshadowed by the [public] equity raising activity, simply because it was so large. That said, though, if you actually look at the numbers, despite 2009 being markedly behind 2006 and 2007, these were blowout years. But [activity] remained above 2004 and 2005, which were pretty good years. In other words, it has stayed solid, if not spectacular.”

However, caution remains, given the economic dislocation seen worldwide, because clearly no economy is an island in today’s interlocked world markets. Moreover, the cheap and easy credit which fuelled the boom times of 2006 and 2007 is unlikely to be replicated anytime soon.

Lawyer David Wenger, partner with leading Australian law firm Allens Arthur Robinson (AAR), shares Sweetman’s positive view, and in fact is even more bullish:

“While M&A activity slowed noticeably, especially in the second half of 2009, indications are that 2010 will see a rebound,” he told AVCJ. “Companies are again starting to focus on growth., and businesses which were in some form of distress have largely survived – and may now be available for sale. Banks are starting to lend again at reasonable levels, and there is a sense that those who move more quickly will be rewarded. The only significant constraint we see is the potential mismatch between buyer and seller expectations. But that gap should narrow as business conditions improve and leverage re-enters the market.”

Best bets

As to where Wenger sees the action being hottest, he says that since Australian companies have mostly not experienced the distress levels seen in most other places, key M&A opportunities are harder to discern. But he reckons that resources and infrastructure will continue to weigh significantly, along with a renewed interest in media, commercial property, mining services and retail.

Sweetman concurs on the ongoing strength in mining and resources, including the oil, gas and coal segments. But that aside, he characterizes Australian activity as patchy.

“You don’t tend to get areas that are consistently strong, even though they may look that way for a year or two. That’s due to the relatively small size of the economy and the limited number of players in most sectors,” he explains.

One promising development is the various government privatizations under way in Australia at the moment. As examples, New South Wales is privatizing some of its electricity assets, and Queensland is doing the same as regards port, toll road, forestry and – substantial – rail assets.

As well, Sweetman sees a continuation of the cross-border activity that was the main market driver over the first part of last year. That includes foreign interests looking to acquire targets in Australia, but also Australian companies’ recovering appetites to invest overseas across a range of sectors; in the US and Europe (despite economic issues there), and to a lesser extent in China/Asia. This may seem a little strange, given the much-touted shift of the global economy’s center of gravity to the region. But the simple reason is there are fewer opportunities there for Australian companies.

“Partly that’s because mainland China is very hard to invest in unless you’re a big company; and frankly, a lot of the PRC companies are very large by Australian standards.”

As for the rest of Asia, it’s case by case. But the bulk of Aussie investments that end up being made will likely be of the partnership/JV type, or even greenfield; but not buying existing businesses.

Private equity: marching to different drummers

On the private equity side, different conditions and drivers are in play. Andrew Thompson, national head of private equity with KPMG, sums up.

“Large private equity firms will continue to investigate large private equity opportunities,” he told AVCJ. “But the reality is that, unless exceptional opportunities come along, it’ll be very tough, due to the improving but still difficult financing conditions, and the current backdrop of taxation uncertainty.”

“The middle market, on the other hand, is characterized by returns that largely come from buying well and growing the business, and not significantly from leveraged-based, or structuring-based returns. Thus we see that segment as broadly unaffected by difficulties in the financing markets.”

“And just as clearly, a lot of GPs have been appropriately cautious after the year they had last year, where they had real worries about their portfolio companies and refinancing risk to contend with. What we’re seeing at present, therefore, is the bears coming out of hibernation into the 2010 sun; meaning there are growing signs of increased new deal origination activity.”

Lawyer David Wenger takes a similar view:

“We see it taking some time for the pre-GFC blockbuster deals to re-emerge. So we expect middle-market deals to dominate, though some large deals may happen in the resources and property sectors.”

As to why, he also cites the current financial constraints in the Australian lending market plus the fact that while Australian corporate balance sheets are now generally stable, most companies are not sitting on significant excess cash.

The problem with these predictions, from the point of view of AVCJ data to year end 2009, is that buyouts made up 97.6% of activity Down Under, with a total value pegged at $17.1 billion. By contrast, expansion/growth capital deals amounted to 1.1% or $185 million, PIPE financings even less at $158.6 million, and turnaround and restructuring activity amounting to $76.8 million and so forth.

Private equity areas of opportunity

As to where activity is likely to be concentrated, consensus is that there is a growing line of private equity firms looking to divest assets, now that some calm has returned post-GFC. This is primarily due to a number of portfolio companies having achieved anticipated investment objectives, and the potential availability of an ongoing IPO exit window, combined with stronger corporate and financing confidence allowing M&A activity.

From a new private equity investment standpoint, according to Thompson, the flow will be to services enabling the fastest-growing industries. So companies providing mining services again have allure as commodity prices firm; and for very different reasons, so do those linked to enabling sustainability. Many clean/greentech businesses may benefit from ongoing stimulus and corporate sustainability strategies – and unlike many other sectors, this can only grow in future.

Additionally, Gary Stead, co-founder and managing director with Shearwater Capital in Sydney, sees the provision of credit as a very attractive space in terms of delivering risk-adjusted returns.

“For private equity, the challenge will be, while multiples have come down, what can they get in terms of leverage. The banks are still very tight on that. But you’d have to see them benefiting on the buyside, referencing again forced asset disposals.”

In other words, it’s a much-changed private equity universe in Australia, as in most other places. And a return to robust longer-term growth remains uncertain, now that the benign credit markets – and raging-bull equity markets – that drove it are in abeyance for the foreseeable future.

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• Topics
• Australasia
• Investments