Global M&A activity had slowed down in spite of some blockbuster deals. Now the question, will this trend be reversed in 2018 or not? Generally, when cash levels are high, M&A activity gets some action. But is the current environment favorable for that?
Domestic M&A activity has been heavily impacted by the changing political landscape in the US. Corporations are waiting for the policy changes that will be brought out. Banks are under pressure to increase revenues though, and this is a reason behind increased M&A activity is the US.
M&A is a way for banks to boost performance. The US economy has struggled a lot for gaining the stable footing it has now, or so it seems. GDP growth is not too high though, and we can say the same for loan demand. Banks are looking to scale up in order to boost earnings.
Tax reforms in the US are leading to a great degree of cash repatriation. An increase in dividends and share buybacks leads to an expectation that US M&A will increase. M&A teams now have access to funds previously tied up overseas and this cash infusion will prove to be useful in the long run.
Before the tax reform, many US multinationals held billions of dollars which were effectively trapped offshore. This was because when the earnings were repatriated in the US, there would a huge incremental tax that would be needed to be paid. Now the same businesses can repatriate cash back to the US with the new mandatory repatriation provisions, part of it would be used to fund acquisitions.
Company valuations will thus be positively impacted. Companies intending to buy have additional cash reserves, and companies intending to sell are worth more. For the M&A market, it is indeed a positive mix. Previously unattractive deals will now be on the table and new opportunities will be created.
Significant structural as well as functional changes are inevitable when it comes to M&A transactions involving multinationals. Previously, businesses had to structure their operations in such a way that were realised in lower tax jurisdictions, typically non-US. Now with tax reforms, this type of structuring activity will not be achieving as many tax benefits as it used to. Deals which were able to shift earnings abroad are not that attractive anymore.
As a result of greater cash availability, cash transactions will become more attractive for buyers. The injection of capital will benefit a number of industries and sectors through strategic M&A. We will see additional activity in certain sectors because of the additional liquidity.
A new pattern of investment is incentivized by the tax reform. This will have profound implications for businesses, with respect to M&A. Sellers will now be much more attracted to divestitures and portfolio restructuring. Buyers will have modest benefits as well. These incentives will be able to reshape corporate portfolios, when combined with a never-seen-before level of corporate liquidity.
Non-US acquirers will do good if they target US businesses and assets, because the lower corporate tax rate will increase the value of many US companies.
Corporate tax rate was 35% previously. Now it stands at 21%. Offshore cash is to be repatriated mandatorily and the one-time tax to be paid for it is 15.5%. Other provisions of the new tax law include new limits on interest deductibility and immediate expensing of investment in tangible business property.
As a result
Corporate earnings power, liquidity, and quality will increase and will creative a more stimulative environment for M&A.
The number of noncore asset sales will increase because of lower taxes. This includes two-part transactions as well as direct sales.
Capital allocation decisions will move to the forefront. These decisions involve the choice between returning cash to shareholders and making new investments. This will be of interest to corporate managers and activist investors.
There is some clarity on the new tax law. For both sellers and buyers, straight asset sales will become a lot more attractive because of this. Investment decisions were put on hold previously because the environment was changing. Now companies will be encouraged to make such decisions. An increase in more focused asset deals in expected, because they will be of strategic significance for both buyers and sellers.