May 24, 2024

DealBook: Amid Debt Crisis, Overseas Buyers Seek European Companies

WalgreensMichael Nagle/Bloomberg NewsThe American drugstore chain Walgreen Company agreed on Tuesday to buy a 45 percent stake in Alliance Boots, the European pharmacy retailer.

LONDON – Europe’s capital markets are in the doldrums. Uncertainty caused by the Continent’s financial crisis has led to a big fall in initial public offerings, while investors remain wary of buying sovereign and company debt.

Yet there’s one area where Europe is shining.

So far this year, the total value of mergers and acquisitions on the Continent by foreign companies has reached $101 billion, well ahead of the combined $73 billion spent in the United States by international acquirers, according to the data provider Dealogic.

While the total value of European deals this year has slipped 20 percent compared with the same period in 2011, the number of acquisitions by foreign suitors is back to the levels at the height of the financial boom in the mid-2000s. In contrast, the value of deals in the United States by foreign companies announced so far this year is still 50 percent less than the $144 billion recorded over the same period in 2007.

As the European debt crisis has been felt across capital markets, the asset prices of many local companies have tumbled. Analysts say this fall in equity values has made some Europe companies takeover targets for overseas companies. The Euro Stoxx 50 index, which comprises the largest companies in the euro zone, has fallen 20 percent over the last 12 months.

Faced with economic tumult, the Continent’s companies have been looking to offload assets to shore up their capital reserves. Local banks are keen to sell so-called noncore assets, like real estate loan portfolios, while industrial companies have been mulling the disposal of international units.

American companies have been taking advantage. Acquirers in the United States have spent a combined $43.7 billion on deals in Europe so far this year, or around 43 percent of the total value of takeovers on the Continent. If Canadian companies are included, North American companies represent just under 60 percent of the buyers of European targets.

On Tuesday, the American drugstore chain Walgreen Company agreed to buy a 45 percent stake in Alliance Boots, the European pharmacy retailer, for $6.7 billion, in a deal that will allow both companies to extend their worldwide reach. United Parcel Service also is acquiring TNT Express, a Dutch shipping company, for 5.2 billion euros, or $6.6 billion.

Despite the increase in deals, bankers say acquirers remain cautious about what acquisitions to pursue. So-called bolt-on deals in the same industry that have minimal risk connected to them have become the main focus of attention. Transformational deals into new sectors, which involve large amounts of debt financing and concerns about how successful they will be, face tough opposition.

Unlike acquisitions in the United States, which are focused in the healthcare, technology and food and beverage industries, deals for European companies are spread across a number sectors. Traditional takeover targets, like mining companies and energy utilities, remain popular, but other sectors, including telecoms and construction, also have recorded high volumes of deal activity, as international buyers look to take advantage of Europe’s financial woes.

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DealBook: The Merrill Lynch and Lehman Deals, 3 Years Later

Harry Campbell

This is a tale of two deals.

Three years ago today, Bank of America leapt into the maelstrom and bought Merrill Lynch for about $50 billion. Early the next morning, Lehman Brothers announced its bankruptcy filing. Lehman soon sold its investment banking and capital markets operations to Barclays for $250 million.

One of these deals has been a success. The other is questionable. The difference shows not only how a chief executive’s hubris can destroy a company, but how three years later, the failure of the Treasury Department, Federal Reserve and the banks themselves to shrink significantly the banks’ mortgage liabilities still threatens our economy.

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Of the two deals, the hands-down winner is the Lehman Brothers acquisition. Barclays paid anything but retail for Lehman, and in the process acquired a powerful franchise in the United States. Barclays is now the seventh-largest American investment bank measured by revenue, according to Dealogic. The former Lehman bankers are competing strongly in some crucial areas. In advising on mergers and acquisitions in the United States, Barclays was fifth in the first half of the year, according to Dealogic. Barclays was also the largest adviser on debt offerings in the world and third-largest in the United States.

At first blush, Merrill is also performing well, but in a way that highlights Bank of America’s scarily poor performance. The bank lost $8.8 billion in the second quarter after taking a $20.7 billion write-off for mortgage-related losses. It would have been worse without Merrill. Bank of America’s investment banking and wealth management operations, which are largely old Merrill operations, contributed $2.1 billion to Bank of America’s profits on $11.3 billion of revenue.

While Merrill is currently throwing a lifeline to its parent, Bank of America, Merrill has also contributed substantially to Bank of America’s problems. The Merrill acquisition added nearly $900 billion worth of assets to Bank of America’s balance sheet. With that, Merrill’s liabilities related to the mortgage crisis were assumed by Bank of America. It is unclear how big they are, but they total in the tens of billions. During the financial crisis, Merrill’s mortgage problems forced Bank of America to take an extra $20 billion in Troubled Asset Relief Program money.

This is where the two deals truly differ. Barclays’s regulator stopped Barclays from buying Lehman before it declared bankruptcy. This was unbelievably lucky for Barclays. By buying Lehman out of bankruptcy, Barclays did not take on Lehman’s toxic assets. These consisted of more than $600 billion in debt. Barclays avoided liability for most of it.

In contrast, Bank of America plunged headlong into buying Merrill. The deal was driven by Bank of America’s former chief executive, Kenneth D. Lewis, who had lusted after Merrill Lynch for years. Bank of America paid a 70 percent premium three years ago for a bank that was worth far less and might have been insolvent. And while Bank of America executives a few months later appeared to get cold feet, the federal government pushed them to close the deal.

Being as deeply in the mortgage market as Merrill was — if not more so — Bank of America should have been aware in September 2008 of the problems looming on the horizon. Yet Mr. Lewis’s eagerness to buy Merrill consumed all sober judgment. At the same time, blaming him alone is also simplistic. I wonder where the Bank of America board was in all of this. This is yet another example of a board failing in its responsibility to ask hard questions.

Things would have been different had Bank of America waited. It would at a minimum have paid a bargain basement price for Merrill, one that was tens of billions lower at least.

There is still some talk of spinning off Merrill Lynch. The operations of Merrill have already been combined with Bank of America, so a real separation would be complicated. And the recent reorganization of the bank’s management — which puts Merrill Lynch’s wealth management business under David Darnell, the co-chief operating officer, but Bank of America-Merrill Lynch under the other chief operating officer, Tom Montag — also makes a split more difficult.

Ultimately, Barclays made a better deal by doing what should be done in an acquisition, carefully assessing the future liabilities and limiting them as much as possible. But let’s be clear. Barclays did this only because it was forced to by the regulator.

The first lesson of Bank of America and Merrill Lynch is that impatience and a chief executive’s hubris can lead to some very bad decisions. And regulators can sometimes stop these heady moves.

There is also a larger lesson here. In the case of Barclays, a regulator asserted that the liabilities could not be assumed. These had to be dealt with before the acquisition. The result was a messy and expensive bankruptcy process for Lehman, but one that has allowed the viable part of Lehman to prosper.

In contrast, Merrill was anything but a clean acquisition. Merrill’s toxic assets were put together with Bank of America’s and Countrywide’s toxic assets. While some argue that Merrill’s investment banking division is helping Bank of America, this ignores the fact that Merrill’s mortgage assets are now most likely hurting the bank even more.

The ultimate lesson from these two deals is that taking your medicine early is worthwhile. Regulators and banks still have not come to terms with the mortgage debt on bank balance sheets left over from the financial crisis, let alone the liability these banks face for selling these mortgages to investors.

This is a problem concentrated in the large banks. As of the end of last year, the four biggest banks held 42 percent of the $950 billion in second-lien loans then outstanding, according to The American Banker, which most banks have yet to write down. Bank of America alone held $136 billion of these loans as of the first quarter. Second-lien loans are the riskiest of mortgage assets because they are the most likely to be written down. According to CoreLogic, 23.1 percent of the nation’s mortgaged homes are underwater, their owners owing more than the home is worth. This means that there will be more pain for Bank of America and other large banks in the coming years.

Putting together Bank of America’s and Merrill’s bad assets has only kicked the can down the road. Three years after that fateful September weekend changed Wall Street, the same mortgage liabilities continue to haunt many banks. This is not a worry for Barclays, at least in the United States. It made the better deal.

Steven M. Davidoff, writing as The Deal Professor, is a commentator for DealBook on the world of mergers and acquisitions.

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Fleeing to Foreign Shores

But it found little investor interest in the United States for an early-stage medical device company that had not yet made a profit.

Reva Medical did what a small but increasing number of young American companies are doing — it looked abroad for money, in Reva’s case the Australian stock exchange.

After an eight-month road show, meeting investors and pitching the prospects of a biodegradable stent, the 12-year-old company sold 25 percent of its stock for $85 million in an initial public offering in December.

“There are so many companies that require capital like our company, and they don’t have access to the capital markets in the United States,” said Robert Stockman, Reva’s chief executive. “People are looking at any option to stay alive, which is what we did.”

Reva’s example shows that nearly three years since the financial crisis began, markets in the United States are barely open to many companies, leading them to turn to investors abroad. Denied a chance to list their stock and go public here, they are finding ready buyers of their shares on foreign markets.

Nearly one in 10 American companies that went public last year did so outside the United States. Besides Australia, they turned to stock markets in Britain, Taiwan, South Korea and Canada, according to data from the consulting firm Grant Thornton and Dealogic.

The 10 companies that went public abroad in 2010 — and 75 from 2000 to 2009 — compares with only two United States companies choosing foreign exchanges from 1991 to 1999.

The trend reflects a decidedly global outlook toward stocks, just as the number of public companies in the United States is shrinking.

From a peak of more than 8,800 American companies at the end of 1997, that number fell to about 5,100 by the end of 2009, a 40 percent decline, according to the World Federation of Exchanges.

The drop comes as some companies have merged, or gone out of business, or been taken private by private equity firms. Other young businesses have chosen to sell themselves to bigger companies rather than go public.

To be sure, as the economy improves and investors shaken badly by the financial crisis begin to regain their confidence, American stock markets may once again open up for companies trying to go public and listings may rise in the United States.

LinkedIn, the social networking site for business professionals, had a successful initial public offering last month on the New York Stock Exchange, and Groupon, the social buying site, has registered its plans to go public in the United States.

But these are big companies, enjoying the popularity of being Internet darlings. Executives and analysts fear that a long-term structural shift in American equity markets means these markets are now closed to legions of smaller, more ordinary businesses. They could more easily have gone public in the United States in the past. But they now remain private or, for the time being, have to market themselves overseas and rely on foreign investors.

For example, initial public offerings by American companies totaled only 119 in the United States last year, according to Dealogic — higher than the depressed rates of the previous two years but a far cry from the 756 companies that went public at the peak in 1996.

As young, fast-growing companies are forced to look overseas for public status and investors, executives and analysts fear that they may increasingly shift their geographic focus — and as a result any jobs they create will be abroad.

“Issuers have to put themselves through a grinder to go overseas, so any significant percentage of overseas listings is a sign that our markets have become hostile to innovation and job formation,” said David Weild, a former vice chairman of the Nasdaq stock exchange and a senior adviser to Grant Thornton.

A variety of factors explain each company’s decision to list on a foreign exchange, like the increased regulatory costs of going public in the United States. Underwriting, legal and other costs are typically lower in foreign markets, companies say.

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