The increased likelihood of an unravelling of the eurozone has made us more fretful than ever on the direction of the global economy, and risk aversion understandably holds sway at present.
However, many investors are adamant that corporate balance sheets remain robust despite the tough environment. Yes, recession has caused havoc on a number of our key industries – especially those with a UK-consumer bias – yet that is why the majority of our largest firms are geared so heavily to overseas territories, particularly emerging markets.
Sure, it is very easy for me as a journalist to sit here and preach for valour, and I have sympathy for small businesses that are genuinely struggling to make ends meet. However, with my investment hat on, the evidence suggests that many listed companies can afford to be stretching themselves further.
Investor surprise
M&A has long been a defining feature of market jolts, yet a number of professional investors have expressed their surprise to me recently as to how deals have dried up.
“Balance sheets are looking very healthy, and a number of companies are very cash rich, so you do question certain companies in regards to how they are going to organically grow and consistently out-deliver with regards to earnings,” asserts Graham Duce, co-head of multi-manager at Aberdeen Asset Management.
“I would have thought there would have been more M&A activity as there is plenty of cash about, but I think it is the fact that CEOs and boards don’t have the confidence at the moment to make those type of decisions because of a lack of clarity about such things as the eurozone situation and a possible hard landing in China.”
M&A has already picked up in some industries if you look on a wider global scale, such as energy services and healthcare, though Paul Spencer, manager of Franklin UK Mid Cap Fund, picks out aerospace, defence and oil exploration & production as candidates for more merger activity in his space.
A quiet year
“In 2011 there were eight bids in mid-cap, and in 2010 there were 12. Last year was quiet enough, but this year looks even quieter,” he remarks.
“I would be genuinely astonished if there was not more M&A activity going on in the second half of this year. If you have a situation where top-line growth is slowing down, chief executives with well-financed balance sheets are going to be looking at ways to engender more growth in their business.
“Typically they will be looking to acquisitions and mid-cap is the typical hunting ground for large-cap to be looking for bolt on deals. Notwithstanding that, large corporates in the US can probably borrow money at rates which make buying UK stocks particularly attractive in terms of an arbitrage between cost of debt and the cash flows of the business they are buying in the UK.”
