PRICING PLAY
Deal Prices Move Higher as M & A; Activity Rebounds
By CHRIS CZIBORR
An improving economy and healthy stock returns have buyers of companies feeling a little more generous.
The average merger and acquisition deal rose 4% to $111 million last year, according to researchers at Latham & Watkins. Meanwhile, the number of U.S. deals rose 9.4% to 8,131, versus a year earlier, according to Thomson Financial, with total deal volume up 26% to $586 million (see story on Orange County M & A; activity, page 24).
“With the stock market being up, people can afford to pay more,” said Craig Carlson, founding partner at Newport Beach law firm Stradling, Yocca, Carlson & Rauth.
And it’s more than rising stock values that have sent deal prices higher.
Demand for mid-sized companies is particularly strong, said Len Hecht, member of the executive advisory team at San Juan Capistrano-based Waterstone Capital Partners.
“Billions of dollars are being raised annually by private equity funds and they’re headed to the middle market,” Hecht said. “Buyers are specializing in nearly every industry sector. Many are willing to take minority ownership positions and leave current management in place. It fits right in with the profile of a lot of entrepreneurs who had been sitting on the sideline.”
Hecht said that international companies also are showing a growing interest in U.S. companies.
“They’re willing to pay significant premiums for platform companies to establish a presence in the U.S.,” Hecht said. “The economy here is starting to come back. It’s a huge market, the dollar is weaker and funds are available at very low interest rates compared to anywhere else in the world.”
And smaller, regional companies also are jumping into M & A;, pushing prices higher. “Regional companies are getting squeezed and feel pressure from the larger companies,” Hecht said.
While deal valuations can vary widely by industry, “in general, they’ve increased between one-half to one turn of EBITDA,” wrote Ira J. Kreft, executive vice president of Fleet Capital Corp., in a report. That means that where companies made an acquisition a few years ago for four times the target’s earnings before interest, taxes, depreciation and amortization are factored out, they now might have to pay 4.5 or five times earnings to make the same acquisition.
Current pricing marks a turnaround from the past few years when the stock slump sent valuations into a tailspin.
“Most of the small companies were willing to sell at their all-time lows,” said Charles Ruck, a partner at Latham & Watkins and head of its mergers and acquisitions group in Costa Mesa. “The rebound in the market over the last year-and-a-half has given them more flexibility and helped bigger companies justify the premiums.”
“When acquisitions really start to go is when the sellers’ expectations of what they can get for their companies start to mesh with what buyers are willing to pay. There’s more balance now between expectations in what sellers can pay and what (buyers’) shareholders can pay.”
Murray Rudin, an Irvine-based partner with Los Angeles-based private equity firm Riordan Lewis & Haden LLC, said private equity funds now are getting mobilized.
“The money has been on the sidelines in private equity funds and in strategic buyers’ pockets for quite a while,” Rudin said. “The private equity funds have had the capital in hand for a long time. The industry went on a binge fundraising during the 1999 to 2000 timeframe and that money’s been sitting on the sidelines looking for places to be put to work for several years now.”
A general increase in optimism about the economy is a key driver spurring the drive to bring private equity money into action.
“What changed is really a domino effect, where buyers started feeling more optimistic about future prospects for the economy generally and for their own businesses,” Rudin said. “The psychology changed. (Private equity investors) started feeling they can afford to pay more and still generate good returns, because their projections for what the combined entity will do in the future will be better. Those higher valuations also make deals more appealing to sellers who then start looking at their choices more closely and then deals start getting done.”
The election could be a factor, too.
“(The election’s) going to continue to have people feeling better about the future and buyers will be more willing to pay more, and sellers more willing to consider transactions,” Rudin said.
Big deals are getting more popular.
There were 99 deals for more than $1 billion in the U.S. last year,40% more than in 2002, according to Robert W. Baird & Co.
“Two years ago, people were not sticking their big toes in the water, and now they are,” said Bart Greenberg, corporate partner at the Irvine office of Seattle-based Preston Gates & Ellis LLP. “There is pressure on valuations to increase.”
That’s a bullish sign for the future, according to Andy Graham, head of the Newport Beach office of Los Angeles-based Barrington Associates. Despite the growth in M & A; activity, last year’s 8,131 deals are far short of the 13,451 transactions completed in 1998, according to Thomson Financial. Investors were very optimistic back then.
“People when making acquisitions buy the future,they don’t necessarily buy the past,” Graham said. “In addition to capital being available and relatively inexpensive to support these acquisitions, it’s a function of people feeling confident they can support acquisitions through financial performance.”
