A cursory glance at UK inbound deal value figures for 2016 would give the impression that the Brexit decision has hit the UK M&A market hard, even in the eight months since the shock referendum vote. Inbound M&A value into the UK fell by 55% from US$348.5 billion in 2015 to US$156.4 billion in 2016. However, first impressions can be deceptive.
In fact, 2015 could be seen as very much an outlier in terms of value as the 2016 total finished above every other post-crisis year. The picture becomes even clearer when we examine volume levels. There were 611 inbound deals into the UK in 2016, only 6 less than 2015, and above all other years since 2008.
And, even more tellingly, deal value more than doubled between H1 and H2 (ie right after the vote to leave) from US$49.4 billion to US$107.2 billion.
There was no shortage of large and well-publicised deals in 2016, particularly after the Brexit result was announced. Japan’s Softbank’s deal to buy ARM Holdings for US$30.2 billion, for example, came several weeks after the referendum, while South Africa’s Steinhoff paid close to US$640 million for the retailer Poundland in September.
Falling pound creates opportunities
One of the reasons behind the boost in post-Brexit deals was the fall in the pound’s value. The near 20% decline of sterling against the dollar has significantly reduced the cost of UK acquisitions for many overseas buyers. When the US cinema chain AMC Theatres paid US$1.2 billion for the UK’s Odeon & UCI Cinemas Group last year, chief executive Adam Aron said: “We might be the first company to announce a billion-dollar acquisition, taking advantage of the currency exchange rate, but I don’t think we are going to be the last.”
Patrick Groarke, a partner at private equity group Livingstone argued a similar point in a recent blog: “There is still appetite in overseas buyers investing in high quality UK companies, and the weaker pound should help these buyers maintain their appetite for UK assets - we can expect disruptive technology, political uncertainty and the devaluation of sterling to continue to drive further foreign interest in UK businesses as we move into 2017.”
Strong Asian interest
Another aspect that gave a boost to UK-inbound M&A activity was record-breaking interest from Asian economic powerhouses China and Japan. There were 26 deals from Chinese buyers totaling US$8.9 billion. One of the largest deals was the US$1.8 billion paid by Ctrip.com for travel aggregator site Skyscanner in November.
Meanwhile, Japan also recorded high deal volume (23 deals) and value (US$31.3 billion). Deal value largely stemmed from the aforementioned Softbank acquisition of ARM Holdings, which was also the biggest inbound deal of the year.
However, this is not to suggest there are no headwinds. Issues will undoubtedly emerge in the medium to long-term, depending on the nature of the deal the UK negotiates. Prime Minister Theresa May’s government has already rejected a “soft Brexit,” which would aim to ensure that UK companies continue to have access to the single market; rather, ministers favour a more bespoke free trade deal, negotiated country by country. Until a deal is agreed, it will be difficult to assess the impact of Brexit and dealmakers may prefer to hold back.
Without a favorable trade agreement in place, British companies will be less attractive targets – partly in their own right, but also in the context of the UK as a favored location for global businesses seeking a European hub. For example, there is a risk in financial services, where the EU is keen to promote its own financial centers over the City of London, but also in areas such as manufacturing, which may be less of a priority for ministers during the negotiations, given their smaller scale.
A disappointing Brexit negotiation therefore has the potential to adversely affect future UK inbound M&A activity. Equally, with domestic companies distracted by the need to navigate a path through such difficulties, both domestic and outbound M&A would also be threatened. The threat would be even more significant if the UK chooses to move in a different direction with M&A regulations following Brexit, which is possible since the current arrangements are largely determined by EU merger regulation.
However, there is also scope for optimism: British companies are still atop the shopping lists of numerous overseas bidders. This reflects the UK’s relative political stability and economic strength – the post-Brexit meltdown predicted by some has yet to materialise. Indeed, the UK was the fastest-growing G7 economy last year. While economic slowdown would diminish both overseas buyers’ appetite for British targets and UK companies’ ability to do deals, this doesn’t appear to be a factor yet.
At a macro level, policymakers have already shown they will act decisively where pre-referendum warnings of economic turmoil look likely to come to pass; in the UK itself, the Bank of England cut interest rates within months of the referendum last summer, while the European Central Bank continues to maintain its aggressive program of quantitative easing.
The US, meanwhile, may be moving into a phase of tightening monetary policy once again, but the Federal Reserve is proceeding cautiously. All of which means that the access to readily-available money that has fuelled transactions in recent years looks set to continue.
In other words, we are very much in a holding period. There will no doubt be bumps along the road as the Brexit negotiations come to a head – and a return to the buoyancy of 2015 seems less likely – but there is little prospect of transactions simply drying up.