Outlook for Mergers and Acquisitions in 2008

17 Jan 2008

Chris McMahon, Brian Doyal and Chris Coetzee share their thoughts


Middle Market Will Remain Largely Insulated from Economic Turmoil
While there’s only one economy, various sub-segments of the capital market exist. The middle market is one sub-segment that has escaped much of the downturn from credit market turmoil, according to Chris McMahon, Managing Director and Head of U.S. Mergers and Acquisitions at Baird.

Across the board, deal activity slowed in the second half of 2007, explains McMahon. However, that trend was felt mostly in the larger merger market. The number of deals valued over $1 billion fell 40 percent from August through October compared to the same period in 2006. Middle market activity – deals under $1 billion – decreased only 8 percent during the same period.

“Traditionally, the primary lenders for middle market M&A deals are not the ‘bulge bracket’ banks. This middle market universe of lenders is less vulnerable to the credit crunch than the larger banks, and as a result, their activity hasn’t slowed as much. In addition, the ‘bulge bracket’ banks now view larger deals as more risky and are reaching down into the middle market, further keeping the segment active.”

Moreover, in a fiercely competitive market, companies understand that pursuing a middle market M&A buyout strategy can help them achieve scale. “While speaking with company executives at Baird’s 2007 Industrials Conference, it struck me that almost all of them have significant M&A objectives for 2008,” says McMahon. “They view transactions as an important supplement for organic growth.”

Furthermore, McMahon emphasizes that such deals will get done despite market turmoil. “Corporate balance sheets are as healthy as they’ve ever been. There is substantial capacity to support M&A activity.”

Business Services: A Hot Sector for 2008
Within the middle market, many sectors are further insulated from economic turmoil, says Brian Doyal, Managing Director and Head of Services and Technology group at Baird.

“Business process outsourcing and off shore outsourcing are hot sectors for 2008. Players in these sectors can actually become more active amid a downturn as companies pursue outsourcing to cut costs,” according to Doyal.

He predicts litigation and regulatory services, government outsourcing, healthcare services and companies involved in “green” initiatives in the waste and environmental management industry will also be winners in 2008.

The industrial sector, however, is heading into the wind. “Valuations of many industrial companies may have already peaked in several sectors and Asian outsourcing efficiencies have already been realized,” adds McMahon. “Global footprints will be critical as the North American industrial economy will be challenged.”

Cross-Border Activity Will Continue to Increase with India at the Helm
In 2008, the number of cross-border mergers and acquisitions will continue to increase – but not for the reasons one might think, says Doyal.

“The assertion that a weak U.S. dollar will drive inbound US M&A activity is false,” notes Doyal. Although a weak dollar does drive increased foreign purchasing of US capital goods, there is no currency arbitrage when you are paying US dollars for a domestic business based on its future, dollar denominated cash generation capabilities.”

Most of the inbound US M&A activity is actually driven by foreign companies desire to have a greater local sales and marketing presence and service delivery capability. Strong growth in developing countries such as India and China is giving companies the confidence and financing capability to reach out beyond their borders for acquisition targets. Case in point: India. Indian outbound cross-border deals have more than doubled each of the last three years and in August of this year volume hit a staggering $30 billion.

“Indian companies are becoming increasingly aggressive buyers,” says Doyal. “And the reasons they’re buying Western companies are often falsely assumed. Access to the marketing, sales and other expertise of Western firms is the primary reason Western companies are purchased by Indian firms; not to move the business offshore as commonly believed.”

Private Equity Firms Will Undergo Increased Competition, Revise Focus
“New entrants to the M&A game are providing fresh competition to private equity players,” says Chris Coetzee, Managing Director of Financial Sponsors group at Baird. “This competition will only increase in 2008.”

Now in the mix are public investment vehicles like Special Purpose Acquisition Companies (SPACs), explains Coetzee. Additionally, increased investment from the sovereign funds of China and Middle Eastern countries will affect the playing field.

Coetzee adds that as the competition heats up, private equity firms will increasingly focus on specialized sectors. “Many private equity firms will change their focus. Limited partners will continue requiring that funds specialize – digging deeper and buying smarter.”

About Chris McMahon, Brian Doyal and Chris Coetzee
With 20 years of investment banking experience, Chris McMahon is a Managing Director of investment banking at Baird focusing on the industrial sector. He is Head of Baird's U.S. Mergers and Acquisitions activities and a member of the firm's Investment Banking Management Committee and M&A Fairness Opinion Committee.

Brian Doyal is a Managing Director and Head of Baird’s Services, Technology and Health Care Groups with 20 years of experience. In addition to serving as Group Head, Mr. Doyal covers a wide range of services sectors, including BPO, Customer Care, Human Capital, Information and Professional Services, and is a member of Baird’s Investment Banking Management Committee.

Chris Coetzee is head of Baird’s Financial Sponsor Group and a member of the firm’s Investment Banking Management Committee and M&A Fairness Opinion Committee. Mr. Coetzee has 17 years of Investment Banking experience.

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About Baird
Baird is an employee-owned, international wealth management, capital markets, private equity and asset management firm with offices in the United States, Europe and Asia. Established in 1919, Baird has nearly 2,200 associates serving the needs of individual, corporate, institutional and municipal clients. Baird oversees and manages client assets of over $78 billion. Committed to being a great place to work, Baird was recognized as one of the FORTUNE 100 Best Companies to Work For® in 2004, 2005, 2006 and 2007. Baird’s principal operating subsidiaries are Robert W. Baird & Co. in the United States and Robert W. Baird Group Ltd. in Europe. Baird also has an operating subsidiary in Asia supporting Baird’s private equity operations. For more information, please visit Baird’s Web site at www.rwbaird.com.

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