The Lex Newsletter: dealmakers’ green shoots and barren lands

Good afternoon,

Every M&A banker will tell you that their business is about confidence. 

(Come to think of it, I’ve never met an M&A banker who was short of the stuff. But that, dear reader, is a different newsletter). 

It isn’t entirely true anyway. Yes, the type of truly headline-grabbing, strategic combinations that typify a strong deals market require the boards and management teams of the largest companies to be full of vim and vigour. After all, every transaction broadly requires someone to pay more than they wanted. Some dogged optimism about the whole thing is required to think that you are going to be the exception to the generally awful statistics about how often deals destroy value. 

But the truth is that there is plenty of dealmaking that is born out of desperation, frustration or, frankly, a lack of any better ideas. 

Regardless, the bankers of the world have kicked off the year by suggesting that dealmaking in all its various forms is set for a comeback. Pick your cliché: pitch books are being dusted off, ideas reintroduced, conversations restarted, projects unshelved. 

Goldman Sachs chief executive David Solomon declared himself “pretty optimistic” about the prospect of more activity, with the bank and peer Morgan Stanley pointing to “green shoots” in its investment banking arms. For the alchemists at Goldman, better than expected fourth-quarter net revenues helped put a shine on its lowest annual reported profits in four years. The shares have rallied sharply over hopes of a dealmaking recovery. Lex isn’t convinced that can last. Fourth-quarter investment banking fees were still down 12 per cent on the year before. 

The awkward truth is that bankers were privately talking up the foliage this time last year and last summer. M&A activity sank below $3tn last year for the first time in a decade. 

There is more conviction this time. At the annual book-talking gabfest that is Davos, Deutsche Bank’s co-head of investment banking pointed to “more concrete” dialogue. (Lex this week looked at why the German bank’s attempts to position itself as a global banking powerhouse founder on its decidedly parochial valuation.)

Private equity bosses and bankers from KKR, CVC and Goldman (again) also weighed in from an Alp, predicting a sharp rise in takeover activity this year. This is important because, typically, the private equity world tends to lead a recovery in dealmaking, with sleepy or risk-averse corporates jumping in later (by which time, of course, prices are higher).

This time may be somewhat different: the sharp rise in the cost of debt essentially shut private equity out of the market at a point where there were potential bargains to be had. Now that there is pretty solid conviction that central banks’ raising of interest rates has finished in the US and Europe, everyone at least knows roughly what the cost of debt is going to be. Public market valuations have adjusted, leaving highs well in the rear-view mirror. Buyers and sellers can at least start edging together on price. 

Still, don’t bet on a fast recovery. One European private equity boss told me recently, “we’re not there yet” in terms of a return to buyout activity. The total collapse in sponsor-to-sponsor deals last year owed something to the fact that private valuations adjusted considerably more slowly than public ones.

Meanwhile, the cost of funds and the need to deliver decent returns over much higher risk-free rates make finding deals that really stack up nicely quite tough. This person’s bet was that 150 to 200 basis points of rate cuts will be needed to narrow the negotiations gap for many deals — and that the pick-up in private equity dealmaking this year would still leave volumes well below even long-term averages.

Sitting in London, where tumbleweed still wafts through the streets of the City, all this cuts two ways. Sure, there are plenty of bankers, lawyers and assorted hangers-on for whom any dealmaking is good dealmaking. But a typical private equity-led revival could resume the steady stream of companies being taken private or acquired from the London Stock Exchange — with little confidence that there is a solid pipeline of newcomers set to replace them.

In fact, the deal that set tongues wagging in the Square Mile this week was the combination of mid-cap brokers Panmure Gordon and Liberum (Lex gave its take on the defensive deal here). Those catering to the UK mid-market are hugely reliant on listings, which have vanished amid ailing interest in UK stocks. This was one of those deals that owed precious little to confidence and, if anything, reflected a distinct lack of it. 

Barren lands, then, more than green shoots.

Three good reads

Lex is not only a newsletter. The contents of the daily columns are online here. Subscribers can get an email alert each time an article is published by adding Lex to instant alerts at MyFT.

Do you know all this already? Email me: helen.thomas@ft.com.

1) It’s been freezing in London. Yet European gas prices are at their lowest point since August, as healthy storage levels give comfort about the continent’s reserves this winter. Lex this week looked at the coming glut of liquefied natural gas, as a wave of supply hits the market and drives down spot prices. Who will be most exposed to that squeeze on profits? Spoiler: it’s not the specialist US LNG developers such as Cheniere or NextDecade. Read it here. 

2) The UK’s biggest supermarkets can sometimes feel all-conquering, especially if you’re a small farmer or manufacturer. But they don’t always get it right. On the back of J Sainsbury’s announcement of a “phased withdrawal” from its banking business, Lex looked at where the lofty ambitions of the grocers in financial services went wrong — and the perils of thinking you can use consumer brand loyalty to cross-sell unrelated services. John Lewis, take note. Read it here. 

3) The headlines this week were full of the latest acceleration of China’s demographic collapse. The country’s population fell more than 2mn last year, double the decline of the previous year. That calls into question a 2020 forecast that China would surpass the US as the world’s largest economy. However, Beijing is responding, with plans to develop a “silver economy” that caters to an elderly population with tailored products and services. Lex this week looked at who could benefit from Beijing’s latest bit of central economic planning. Read it here. 

Things I have enjoyed 

As a rule, I am generally catching up with things that everyone else enjoyed years ago. Sorry about that. This week, I was listening to season one of the BBC podcast The Lazarus Heist, which looks into the 2014 hack of Sony Pictures by North Korea.

I very much like snow. This was an interesting read on the relationship between snow, the weather and climate — and how scientists went about determining a formula for how snow reacts to climate change. It will stun you to learn that the answer is not a happy one.

Internet culture is best taken in limited quantities. But this week’s Today in Tabs substack on scientists, by US media commentator Rusty Foster, was a rollicking read. Sample: “It’s an entire profession that had to be made subject to Institutional Review Boards because if we just let them do anything they want, there would be no end to the horrors. The foundational questions of modern science include things like ‘what happens if you open the dog?’ and ‘if I put a stick in my eye, will I see God’s secret colors?’”

I wish you all the best with your scientific endeavours this weekend.

Helen Thomas
Head of Lex