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Green or Green – Growing ESG Importance in the Private Equity Industry

I. ESG in the PE industry

In 2004, the then-UN general secretary Kofi Annan wrote a letter to 50 CEOs in the financial industry, urging them to further integrate sustainability into capital markets. This was the beginning of the PRI (Principles for Responsible Investment). Today, over 2,000 funds have signed the United Nations-supported PRI, up from 1,300 in 2013. The signees now have a combined $82 trillion AUM. PRI consists of six principles centred around the idea that long-term value of investors is best secured when investing into targets that are aware of the importance of ESG (Environmental, Social and corporate Governance).

During its transition from alternative investment option to mainstream way of investing, the private equity industry has also become increasingly concerned with ESG. This involves recruiting ESG-dedicated specialists, having higher sustainability requirements on potential targets and integrating ESG into every aspect of the daily operations of their portfolio companies.

“Poor ESG is indicative of a poorly run business, and for positive change to be really effective it must be driven by organizational culture,” Adam Black, Coller Capital Head of ESG said recently. A newly conducted ESG report by his firm shows that 89% of responding General Partners (GPs) are following and have formal ESG Policies, while the same percentage of responders say that ESG awareness require a special set of skills.

CFA UK has now responded to this demand by launching a four-level certificate in ESG Investing to stay up-to-date with recent developments and to integrate ESG capability more thoroughly into working life. Candidates will be able to take the exam in December 2019, and over 500 candidates have as of now already signed up to complete the course, showing that the interest in ESG is high both for employers and employees in the financial industry.


II. How ESG is integrated in recent deals

In the Private Equity industry, ESG is becoming an important part of the decision-making process for investments. According to a research by BCG, among 343 firms from 5 sectors, companies with strong ESG ratings get higher marginal return on the long term. 85% of the limited partners surveyed by Private Equity International strongly emphasized on responsible investment.

In 2017, the world’s largest pension fund (Japan’s Government Pension Investment Fund) with AUM of over 1.5 trillion announced their strategy to incorporate ESG factors as a top priority, and to allocate 10% of the general funds to sustainable investments. New Zealand Super Fund has announced a huge divestment of their investments in fossil fuel projects valued at $950M. Bain & Company’s report, based on a sample of 450 PE-led exits in Asia-Pacific region, shows that the median multiple on invested capital was higher for deals with social and environmental impact.

The evolution of ESG is not without difficulties: How should we appreciate, rate and rank ESG factors in a company? Which factors are more relevant for each sector? Certainly they are different: A company in the agriculture segment would not have the same ESG issues as a company in the energy production sector.

ESG Rating agencies such as Vigeo Eiris, ISS ESG and Sustainalytics have been created. Classic rating agencies and audit firms are also trying to fill this market (Bureau Veritas, SGS), and a globally shared standard could be the next thing we expect.

According to Deloitte Sitra and FVCA, a PE firm can be defined based on its current status of ESG maturity and role of impact into four categories.

III. What is the future for ESG in PE?

Cerulli Associates’ director said : ”We are in the beginning stages of adoption, with many firms just starting to build their ESG integration processes.” The development of Private Equity firms focusing on ESG is positive for the world’s ESG challenges, as private equity firms have influential and financial capabilities to create social responsibility through environmental improvement and social projects, while increasing returns for their investors.

However, it is still too early to conclude on whether this impact commitment and the ESG influence in Private Equity investments are creating value for investors although the current situation does look promising, looking at the Bain & Company sample of 450 APAC PE exits where the multiples for ESG deals were significantly higher than for other deals. According to the research firm Cerulli Associates, one “significant” challenge that asset managers are facing currently is the lack of ESG data. This is confirmed by Deloitte “there is enough information available, but concrete procedures are missing or they are still emerging.”



Sources:

https://www.africaglobalfunds.com/analysis/analysis-and-strategy/private-equity-the-esg-advantage/

https://karmaimpact.com/private-equity-firms-add-esg-professionals-over-in-push-to-address-investor-demand/

https://www.fnlondon.com/articles/private-equity-firms-step-up-plans-to-recruit-esg-specialists-20191104

https://www.privateequitywire.co.uk/2019/11/20/280663/new-qualification-esg-investing-launch-december

https://www.fnlondon.com/articles/bigger-is-better-for-esg-in-private-equity-study-finds-20190610

https://www.penews.com/articles/private-equity-looks-to-esg-offenders-for-higher-returns-20190603

https://www.bain.com/insights/private-equity-investors-embrace-impact-investing/

https://sixcapitals.co.za/download/savca-esg-presentation_six-capitals.pdf

https://www.slideshare.net/SitraTalousTeema/impact-investing-study-in-the-private-equity-field

https://media-publications.bcg.com/BCG-Total-Societal-Impact-Oct-2017.pdf

www.finextra.com/blogposting/16750/the-top-10-esg-metrics-private-equity-funds-should-collec

https://radar.sustainability.com/issue-17/esg-in-japan-worlds-largest-pension-fund-leads-rapid-growth/

https://uk.reuters.com/article/us-japan-gpif-esg/japans-gpif-expects-to-raise-esg-allocations-to-10-percent-ftse-russell-ceo-idUKKBN19Z11Y

Super Fund’s $950m fossil fuel divestment an “aha” moment for NZ economy

https://www.institutionalinvestor.com/article/b1j1161j66t61g/Asset-Managers-Say-They-re-Into-ESG-Their-Product-Descriptions-Say-Otherwise

Featured

Coca-Cola takes plunge into coffee with 3.9 billion-pound Costa deal

On the 31st of August 2018, Coca-Cola (NYSE:KO) announced that it had reached a definitive agreement to acquire the U.K. Coffee-shop leader Costa for 3.9 billion pounds ($5.1 billion). This brave acquisition is a turning point for both companies.            


The Coca-Cola Company 

The buyer is The Coca-Cola Company, one of the biggest beverage company in the world. Its portfolio is extremely wide, including around 500 brands based in more than 200 countries.          
The firm was founded in 1892 in Atlanta, Georgia in the United States. The Coca Cola’s product was designed in 1886 by Dr John Stith Pemberton. A trade secret protects its recipe from the 20th century.    
The successful marketing campaigns are the major drivers of brand triumph. Indeed, they have a powerful impact on pop culture and society as a whole.

Coca Cola six-year financial performance        

74.1% of the turnover of Coca Cola is achieved at the international scale with more than 30 worldwide production sites. In the last quarter release of 2018, Coca Cola showed an increase of EBITDA Margin reflected by a reduction in Operating Costs. Despite a reduction in EBITDA by -2.94 % and Revenue by -7.64 %, EBITDA Margin in 2018 was 40.11 %, above the company average.

The beverage company expanded the range of its product by bringing other soft drinks such as Fanta or Sprite in its portfolio.   
Nowadays, Coca-Cola aims to reduce the amount of sugar and the environmental impact caused by traditional drinks. Therefore, Coca-Cola strives to achieve those goals through the acquisition of additional organic and artisanal beverage companies.        

As a result, the acquisition is a clear signal that it is diversifying away from the sugary and carbonated drinks on which it has built its name. It is the most significant acquisition of Coca-Cola in eight years, pushing it into direct competition with Starbucks, Nestlé and JAB Holdings in the international coffee market.


About Costa Limited        

The seller is Costa Coffee. It is a British private multinational coffee company established in 1971 by the Costa Family (Bruno and Sergio Costa) as a wholesale operation supplying roasted coffee to caterers and traditional Italian coffee shops.  The company is headquartered in Dunstable, Bedfordshire (UK).        
Costa Coffee is the largest coffeehouse in the UK, with a market share of 39%. It was initially acquired by Whitbread PLC, the UK largest hotels, restaurants and coffee shops operator for £19m in 1995 when it had only 39 shops.     
Nowadays, Costa Limited is running a coffee shop business internationally and specifically within the UK with around 2,400 retail outlets in the UK and over 1,400 stores in 31 global markets.

For several years, Whitbread was under pressure to spin off Costa from the rest of the business as an independent company but resisted the desire and waited for the right time. Indeed, Whitbread concluded that a straight sale would lead to a more profitable option. Associates emphasized the fact that the spin-off option would have led to smaller yields and might have taken around 2 years to produce comparable returns.

For Whitbread, the acquisition provokes a new period in its 276-year history that will be spearheaded by its Premier Inn hotels and complimentary restaurant brands such as Beefeater and Brewers Fayre. 

Costa Coffee five-year financial performance  


Costa’s revenue swelled at sturdy rate of 7.5% to £1,292m in 2017 (up from £1,202m in 2016). It also announced a hefty return on capital of 46.0%.

M&A in the coffee market heats up with entry of Coca-Cola        

The coffee industry has become a fast pace growing sector of the international beverage business. The worldwide coffee market is worth between $80 billion and $100 billion.
According to Statista, the US is the largest market on a global scale, with consumers spending $12.5 billion on coffee in 2017.

Numerous beverage companies have been acquiring companies to expose themselves to prospective markets.  
For instance, Nestle acted in the same way as Coca-Cola by acquiring smaller niche producers, Blue Bottle Coffee and Chameleon Cold Brew. The Swiss food company also paid $7.2 billion to establish an alliance with Starbucks with the aim of selling its coffee products outside the US company’s coffee shop, extending its Nescafé and Nespresso portfolio with Starbuck’s brand. Likewise, the U.K.-based food-and-coffee chain Prêt A Manger has been bought by JAB, Reimann family’s investment company for $2 billion earlier this year. Formerly, JAB had acquired high end coffee companies such as Peet’s Coffee & Tea in 2012 for an estimated £1 billion, Caribou Coffee in 2013 for $340 million, Nordic Coffee in 2015 for $300 million and Krispy Kreme in 2016 for $1.4 billion. The merger of Dr Pepper Snapple and Keurig Green Mountain for $18.7 billion also occurred previously this year. Therefore, Costa was the sole acceptable coffee chain available for a potential buyout in the market.

These decisions are explained by the desire of diversification, exploring new opportunities and penetrating new markets and businesses. Indeed, soft drink has always been a disintegrated sector without having strong positions in the coffee industry. 

The trend of “health-consciousness” has become the company’s priority. This move might lead to a reduction in the consumption of sugary and fizzy drinks.
The expansion towards Asia is another priority due to the fact that the coffee culture is growing at a fast pace. According to GlobalData, retail sales of hot drinks in China will hit $34.2bn by 2022. A few acquisitions are going along. Indeed, Costa itself acquired Yueda on October 2017, a Chinese coffee chain and Starbuck announced a deal with e-commerce giant Alibaba with the goal of extending its delivery services within the country in August 2018.

Buyer’s rationale of the deal

  • Coca-Cola buys Costa to fill in the final piece of the puzzle: Coffee Expertise

“Hot beverages are one of the few remaining segments of the total beverage landscape where Coca-Cola does not have a global brand. Costa gives us access to this market with a strong coffee platform” said Coca-Cola President and CEO James Quincey. Indeed, this big deal will help Coca Cola to further expand beyond soft drinks and move into the hot drinks sector. Costa provides new capabilities and expertise in coffee to Coca Cola.       
However, this coffee expertise might cause friction with Starbucks, which already forged strong ties with Coke. Indeed, this acquisition might spark a burden in the Starbucks marketplace.

Coca Cola will benefit the vast coffee vending business of Costa Coffee counting more than 8 000 Costa Express machines worldwide, located in convenience stores, cinemas, and offices. This business strategy will enable Coca Cola to expand its existing offerings. However, Coca-Cola does not have any experience in running a retail format. Therefore, it plans to let the existing management handle that part of the business. Moreover, this coffee expertise will also help Coca Cola’s customers.  In effect, the Coca-Cola president and CEO, James Quincey said “it’s the right thing to do to serve our consumers with more of the drinks they want, which in turn helps our customers”.
Overall, the acquisition of Costa Coffee will give Coca-Cola a competitive advantage through strong expertise across the coffee supply chain, including sourcing, vending and distribution.

  • Coca Cola’s long-run diversification scheme

Nowadays, the new generation is becoming health conscious, sugary drinks and junk foods are no longer part of the youth’s daily routine. Health organizations are raising awareness about the negative health effect of sugary beverages. Governments are also discouraging businesses by putting into practice severe measures such as “sugar taxes” to restrain their production.       
Overall, the consumption of sugary drink is dwindling swiftly at a global scale (estimated around 11% in 2018). Coca Cola and its competitors are facing this problem together and strive to shift their approach by reaching alternative beverage marketplaces. A previous M&A deal of $3.2 bn involving Pepsi and SodaStream is a typical example.    
Therefore, the world’s biggest producer of soft drinks is seeking for alternatives in the hot beverage segment in order to offset the unfavorable trends in consumer preferences who shifted from sugary drinks to healthier ones.

Despite the fact that Coca Cola has always been a flagship company, the firm lost its fizz over recent years. Coca Cola has made a lot of attempts such as expanding its fruit juice portfolio and striving to launch a naturally sweetened version of its flagship coke named “Coca-Cola Life”. However, all these attempts were not successful enough to regain momentum in the marketplace. This is reflected by a decrease in Coca-Cola’s sales since 2012. Therefore, one smart acquisition was the only way for the Atlanta-based company to help their revenues and margins revive.
This was the moment when the “Coca Cola and Costa Coffee deal of $5.1 bn” headline came up in the news. This move was designed to penetrate the profitable hot beverage marketplace as well as raising synergies by combining the Costa’s established coffee-selling platform with Coca-Cola’s astounding marketing expertise and global reach.

  • Synergies opportunities

Coca-Cola expected revenue synergies through the sale of the seller’s products added to its distribution network. Moreover, cost synergies could also be generated by centralizing ingredient purchasing and production reflected on a reduction in SG&A costs.


Seller’s rationale of the deal

·      Whitbread passes on Costa’s Chinese challenge to Coca-Cola

Although Costa has penetrated a lot of geographical markets, the company is interested in the Chinese market to guide its global expansion in order to compete with its US rival, Starbucks.  
China GDP projected to exceed $15 trillion by 2021 from $11 trillion in 2014, is a major driver for the company growth with a meaningful increase in its middle class.
Furthermore, the per capita coffee consumption in China is significantly higher than in the US which may lead to a revenue growth from the region.       

The intention of Costa Coffee is to augment the number of its store in the country from their current 449 to approximately 1,200 by 2022.
Coca-Cola will be essential for achieving this goal by using its financial power. Indeed, while there was little doubt behind Whitbread’s plans to expand Costa internationally it has delegated the enormous task of breaking into new markets against more established competition, to a more fitting owner, Coca Cola who has the resources needed to drive Costa to the lead of coffee on the international scale.

  • Costa Coffee is using Coca Cola’s well-established reputation to expand itself

The coffee shop chain is determined to realize its strong potential overseas. The combination of an international super-brand and the UK’s biggest coffee chain will ensure continued product development, greater market share and potentially enormous and rapid growth expansion overseas.        
The sale to Coke offers intriguing possibilities for the Costa name to appear in new formats, such as chilled variants, and reach a wider audience through Coca-Cola’s well-established distribution network. While Costa is “ubiquitous in the UK, the business has “plenty of opportunity to expand internationally, as Whitbread had been doing” says Patrick Mitchell-Fox, senior business analyst.                        
With operations in many markets, Coke would be well placed to facilitate international expansion further and take Costa Coffee to the next level.

  • Tremendous returns received by the shareholders

Whitbread shareholders will receive a majority of the proceeds of the £3.8 billion deal, taking into account the £100 million of costs. Also, Whitbread plans to lower its debt and address its pension deficit.       
It is worth mentioning that the net debt and the deficit were already shrinking. Indeed, Whitbread’s pension deficit was at £289 million at the beginning of March, £136million lower compared to last year. Net debt reached a pinnacle of £910 million in 2016 but fell to £833 million beginning of March. The Gearing is relatively low, with a ratio of Net Debt/ EBITDA equal to 1.

Deal structure        

According to Alison Britain, CEO of Whitbread said: “It’s been a very fast transaction, there was no auction process”.           

The sale was a cash and debt-free deal valuing Costa Limited Business at $4.15 billion (after transaction costs), with Whitbread’s financial debt and pension fund staying with Premier Inn (the hotel chain owned by Whitbread PLC).

During the 2018 fiscal year, (ending March 1, 2018) the revenue of the company is £1.3 billion and EBITDA of £238 million GBP. This is an equivalent of $1.7 billion in revenue and $312 million in EBITDA.        
This involves a 15.7x EBITDA multiple (or 16.4x if we take into account the total enterprise value of $5.1 billion). When Analysts compare the ratio EV /EBITDA of 16.4x to the 13.0x multiple that Nestlé paid for Starbucks’ market rights in mid-2018, they conclude that a hefty premium is paid by Coca-Cola.      

Nicholas Hyett, an equity analyst at Hargreaves Lansdown, commented: “£3.9 billion is an undeniably rich valuation and likely far better than Costa could achieve as an independently listed company, valuing its earnings higher than those of the robust Starbucks, and Coca-Cola is one of the few companies in the world that could justify the valuation”. Indeed, Coca Cola is paying up to 70% premium. Coca-Cola will acquire all issued and outstanding shares of Costa, the wholly owned subsidiary of Whitbread. This M&A deal is planned to be somewhat accretive the first year, which might however be impacted by the purchase accounting (not much in terms of cost synergies).

Two reasons can justify such a premium.

  • The first reason is the desire to circumvent a bidding war with a set of private equity firms that were informally initiating conversations with Whitbread.
  • The second reason is the potential operating synergies generated following the acquisition with Coca-Cola already using a lot of coffee and caffeine in its production chain and with Costa Limited providing the firm with exceptional experience in the field. Besides, Coca-Cola will have the opportunity to make the most of Costa’s retail chain to enhance its worldwide distribution of drinks.

Market Reaction     

The shares of Whitbread climbed to almost 20% following the deal announcement.
Alison Britain, CEO of Whitbread, mentioned that the acquisition reflected growth potential for the company. This has been reflected through an increase of the shares by almost 20% and closed at 14.3% higher following the news of the deal which analysts said was priced at 16.4 times Costa’s latest annual earnings.   
However, the share price of Coca-Cola has been impacted in a negative way. The share price decreased by 0.4% following the deal announcement. This small impact might be explained by two opposite reasons.

  • On the one hand, the acquisition is a good move and helped the company to diversify its product range and attract a new type of health-conscious customers.
  • On the other hand, investors are a skeptic to the fact that Coca Cola will not embrace the retail experience, crucial in the coffee business, which might result in a decrease in profitability. Starbuck, an expert in their approach of building customer relationship and delivering high-quality service, will be a burden for Coca-Cola who usually communicates information simply through advertising ads.

The consequences in the long-term

Whitbread managed to please their resentful shareholders that have been waiting patiently for it to segregate Costa, soothing them through the “substantial premium” received by the shareholders.   
The coffee chain owns the financial support required in order to operate on a worldwide scale and Coca-Cola acquires a brand that diversifies its portfolio, which possesses a platform essential for the company to raise global growth.            

Nevertheless, this acquisition may arise an issue. Indeed, the absence of Costa will make the Whitbread portfolio less diversified, which make Whitbread vulnerable compared to the large hotel players such as InterContinental Hotels Group, Marriott, Accor. Therefore, we may raise the following question:  Could Whitbread become a takeover target?


Advisors

Rothschild & Co was the unique financial adviser to the buyer the Coca-Cola Company. Coca Cola already had previous experience with the British-based elite boutique which advised the major deal of the 2015 merger of three major bottlers valued at $31 billion at the time. However, Whitbread decided to involve a few banks to advise the deal. Indeed, Goldman Sachs, Morgan Stanley and Deutsche Bank were all sharing a piece of the pie. Clifford Chance was the legal counsel to The Coca-Cola Company, while Skadden, Arps, Slate, Meagher & Flom were its tax consultant. Slaughter and May acted as legal advisor to Whitbread.


Author : Charles Zeitoun

Bibliography

The Birth of a Giant: FCA-PSA merger

Nowadays, it is very challenging and strenuous to be a globally prosperous automaker. For this reason, major players of the sector are trying to merge to maximize shareable costs. Examples of this could the devising new propulsion technologies, such as electric powertrains and competing with tech firms on alternative transportation methods such as connected cars and autonomous vehicles.

Hence, many of the contemporary automakers have merged with competitors or are considering doing so. The structure of the automaking industry is being heavily reshaped: The Renault-Nissan-Mitsubishi alliance is currently in the process of collapsing, Ford and VW are attempting to dissolve any merger discussion and GM is trying to entangle its European division more solidly in the European market by merging it with regional automakers. Currently, the biggest merger announcement regards the potential consolidation of  FCA and PSA. 

The hypothesized merger between FCA and PSA doesn’t represent the first attempt of the Italian automaker. FCA had previously speculated about a consolidation with the French carmaker Renault. This merger failed in June after FCA declared a strong interference from the French government, which owns 15% of Renault.

The current merger arrangement between FCA and PSA is on a constructive and encouraging path to be realized. PSA would profit greatly by effectively taking over the Jeep brand and receive continuous and direct access to the North American market with its valuable and voluminous pickup-truck and SUV end-market. 

Besides, FCA does not own any pure electric or autonomous drive technology which could play a significant role in the next future. Thus, the merger between the two players will not target the general market gaps but rather will focus on assorted and embedded problems within the existing conventional carmaker traditions. This was an additional reason why the speculated merger between FCA and Renault fell apart.

The announcement of the possible merger has been published on October 30th, with the approval of the PSA’s board. The formula agreed on is a 50/50 share-swap, and the creation of  a new automotive company. In the end, who is buying who?

Figure 1: Share movement comparison of FCA and PSA after the merger announcement. 

FCA’s stock rose more than 17% from the day before the announcement, while PSA plumbed to almost 9%. Considering the share price of FCA on the 1st November, PSA is paying a $3.9 premium for the Italian-American-Dutch group. FCA has also declared that it will pay a special dividend prior to the acquisition amounting to $5.5 billion, which means $3.5 per share, or  more than 20% of the current share price. 

By summing up all this data is reasonable to state that FCA’s shareholders are the real winners of the operations, while PSA would almost be facing most of the market risk. 

The merger, carried out under a Dutch parent company, will greatly impact the shareholder structures of FCA and PSA, as well as their respective voting rights.

The governance of the new company would be balanced between the contributing shareholders, with the majority of the directors being independent. The Board would be composed of 11 members, of which 5 nominated by FCA (including John Elkann as Chairman) and 5 nominated by Groupe PSA (including the Senior Independent Director and the Vice-Chairman).

The Chief Executive Officer would be Carlos Tavares for an initial term of five years.

It is proposed that the by-laws of the new combined entity would provide that FCA’s loyalty voting program will not operate to grant voting rights to any single shareholder exceeding 30% of the total votes cast. Additionally, there would be no carryover of existing double voting rights which would accrue after a three-year holding period starting from the completion of the merger.

A standstill of 7 years and a 3-year lock-up period  would be applied to the shareholdings of EXOR N.V., Bpifrance Participations SA, DFG and the Peugeot Family, with an exception made for the last one , which would be allowed to increase its shareholding by up to 2,5% during the first 3 years following the closing, through Bpifrance Participations and DFG.

Figure 2: Possible shareholder structure of the new company

The value creation from the deal is mainly derived from the synergies created by more efficient resource allocation. The majority of the $4.12 billion estimated synergies are supposed to be achieved in the following 4 years. The new company will generate total  revenues for $188 billion and will sell 8.7 million vehicles per year, overcoming General Motors and Volkswagen in terms of sales volume.The technological synergies would also be relevant and are projected to be between €3 and €6.6 billion in the long run. 

Surely this deal will face different obstacles, due to uncertainties on multiple fronts, such as the  political implications of the deal.

From a political standpoint it is renown that FCA already faced a certain degree of opposition when, months before, it had approached PSA’s French rival Renault for a possible merger discussion, which was subsequently terminated due to the decision by the French government to walk away last June.

The French government is Renault’s biggest shareholder, with a stake exceeding 15%, and thus had a relevant size to oppose the deal’s development. However, in the PSA case, the French government possesses the same amount of shares as the Peugeot family and Dongfeng, which represents a mitigating factor according to analysts. Furthermore, the French government  declared its support to the deal’s logic and the size of the NewCo which will be able to able to protect workers’ interests.

The logic of the deal itself is a point of uncertainty. Comparing it with the previous merger attempt between FCA and Renault, the deal with PSA presents a stronger logic and thus, has a greater chance of succeeding. 

The newly formed  entity would allow Peugeot to diversify its geographical presence, penetrating the  US and Latin America markets, at the same time, it would mitigate FCA’s risk of regulatory financial backlash by granting access to PSA’s power-train technology at a highly competitive cost.

The likelihood that the merger will actually take place is growing day by day. On November 25th, Reuters announced that both FCA and PSA have produced an internal communication, stating that more than 50 people are working towards the finalization of the mergers. 

Excluding any unexpected turn of events, the new automotive behemoth will see the light of day within the next few months. The good prospects are confirmed by the willingness of the two parts to sign a memorandum of understanding within the 20th of December, in order to give a more precise direction to the deal. 

As everybody knows, there is no gain without pain. General Motors did not stand by looking, suing  FCA for presumed corruption with the American union “United Auto Workers”. We will see in the next few weeks how this is going to affect the deal and the values proposed for it . For now, it seems that  the road is open for the real game-changer of the decade in the automotive sector.

Authors: Leo Paus, Mattia Lorenzo di Lilla, Federico Felice Intini

Sources:

https://www.ft.com/content/11e7b5c8-fbab-11e9-a354-36acbbb0d9b6

https://www.ft.com/content/474182c8-fa82-11e9-98fd-4d6c20050229

https://media.groupe-psa.com/en/groupe-psa-and-fca-plan-join-forces-build-world-leader-new-era-sustainable-mobility

https://www.autonews.com/executives/fca-psa-tell-employees-they-will-sign-merger-agreement-coming-weeks

https://www.reuters.com/article/us-fiat-chrysler-m-a-psa/peugeot-fca-accelerate-merger-talks-sources-idUSKBN1X90LF

https://europe.autonews.com/automakers/psa-buyer-fca-50-50-merger

https://www.cnbc.com/2019/10/31/fiat-chrysler-and-peugeot-confirm-deal-to-merge.html

https://it.reuters.com/article/topNews/idITKBN1Y00XH

https://www.bloomberg.com/quote/FCAU:US

The US economy through the eyes of this earning season

The earnings season started again, as for every quarter, with corporates announcing results and updating their business guidance. Investors were very nervous worldwide due to geopolitics tensions such as Boris Johnson’s Brexit plans, US-China trade talks and Hong Kong protests against the Chinese government. Some bears are looking at signs for the longest-ever bull market’s end and they may be able to materialise some return on short positions.

The street has issued views about the earnings season, some analysts see room for growth and others are more cautious about inflated investors’ expectations.

As usual, the period started by some of the major banks and the biggest asset manager on earth (BlackRock). Let’s have a closer look at some numbers with particular focus on specific sectors taking into account US economic momentum. Hereafter, stock returns by sector in the period between October 28 and November 1, 2019.

Financials

Banks opened the earnings season as usual. JP Morgan Chase, Citi and Goldman Sachs reported as first ones. The financial sector is a good global economic sentiment proxy due to its high-cyclical feature. Financials’ core business focuses on helping clients investing their money, providing financing to companies and individuals, helping to raise capital or facilitating access to financial markets for corporates.

JP Morgan Chase’s financial results were above consensus hence leading to beat versus analysts’ estimates. The beat was mainly led by consumer banking whose growth offset the lowering rates environment hurting banks’ profitability. Revenues at $30.1 billion were up 8% year-on-year with net income reaching $9.1 billion and $2.68 EPS. The 25% YoY growth in the fixed income business showed solid and above expectations while the equity side was a lag. According to JPM’s CEO, Jamie Dimon, consumer spending is strong in the US but geopolitics might negatively affect results going forward also weighing on the overall economy’s health. On trade tensions, he said that it is too early to see whether it will be a recession driver.

Citi published results beating Wall Street expectations too. Revenues were at $18.6 billion and EPS at $1.97 versus consensus at $18.56 billion and $1.95 respectively. Costs saving led by reduced headcount was not enough to avoid a -1% YoY decline in trading results but still above consensus implying a -4% decline. The bank is not only eliminating positions but also investing in new technology that will help it save at least $500 million this year as it seeks to improve an efficiency ratio that has disappointed investors in the past according to Michael Corbat statements.

Looking now at Morgan Stanley, they announced what they defined the best third quarter for revenues in a decade. Profit was up 2.3% to $2.17 billion in the quarter, or $1.27 per share, compared with the expected $1.11 per share. MS revenues came in roughly $500 million above consensus at $10.1 billion and surprising investors given the difficulties faced by other Wall Street firms in the reporting quarter

Goldman Sachs posted disappointing results versus peers. The bank said profit slumped 26% to $1.88 billion, or $4.79 a share, below the $4.81 expected and the $6.28 of Q3 2018. Revenues also fell by 6% to $8.32 billion, but slightly above the $8.31 billion expected. The business divisions which mainly contributed to this result were investing & lending and investment banking segments while trading modestly exceeded expectations.

If we now take a quick look at BlackRock, the world biggest asset manager, the company achieved a record profit margin last quarter. Lower costs and increasing asset under management swelled AUM at the world’s largest fund manager to almost $7tn. The New York-based fund saw inflows for $89 billion, of which $84 billion into iShares, the company passive investing arm. Larry Fink, CEO and founder of the company, stated that eliminating trading commissions was extremely beneficial for this part of the business. At the same time, the net income fell around 8% YoY. The stock was up on the release as investors liked the 30% growth in the technology business, namely Aladdin, which represents nowadays 7% of the firm’s revenues.

Share prices’ returns YTD as of 10/11/2019 for Morgan Stanley (blue), Citi (orange), JP Morgan Chase (yellow), BlackRock (green) and Goldman Sachs (black)

Consumers

As it involves corporates operating in different underlying businesses, although all related to consumer products, this is a broad and heterogeneous sector. Consumption is linked to the economic well-being, generating inflows for companies, taxes for governments and investments among others.

Starting with Nike, the stock surged to an all-time high, on the heels of the company’s better-than-expected earnings report. Revenue increased to $10.7 billion in the first quarter, up 7% on a reported basis and up 10% on a currency-neutral basis, driven by growth across all geographies. EPS for the quarter were $0.86, an increase of 28% driven primarily by top-line growth and gross margin expansion. According to the CEO, Mark Parker, the strong start is attributable to the investments in product innovation together with the digital experience that continues to deepen customer relation, leading to higher sales. This is also a consequence of Nike’s recent acquisitions of tech start-ups, signalling that Nike has been thinking outside the box and ahead of many of its peers. An example of those acquisitions is Celect, with which Nike can predict the style of sneakers and apparel researched by the customers divided by region.

Looking now at Coca-Cola, the results topped analysts’ estimates. Revenues were $9.6 billion against a consensus of $9.5 billion and the EPS were at $0.56, in line with estimates. Healthier options such as smaller cans and no sugar sodas have seen sales increasing given the higher attention paid by the customer to healthier options. Zero Coke Sugar saw double-digit volume growth in the quarter. On the other hand, because of high plastic usage, the company is conscious that the water business may have weaker performance in the future, so they are currently working on more sustainable solutions in this field.

On a different note, McDonald’s had a quarter below Wall Street expectations for the first time in the last two years. McDonald’s U.S. business, which is responsible for roughly a third of the company’s total revenue, collapsed after ending one of its nationwide limited-time value deals. In the first half of the year, the Chicago-based company referred to this promotion as a key sales driver. Revenues were at $5.4 billion (vs $5.5 expected) with EPS of $2.11 (vs $2.21 expected). Moreover, recently the company fired the CEO after he had a consensual affair with an employee, as this was violating the corporate policy. Therefore, not a great moment for the company differently from competitors such as Burger King’s owners Restaurant Brands International whose shares are rising on strong business performance.

Finally, as we approach holiday season there was Hilton, one of the biggest companies worldwide in the hotel industry, which reported earnings above Wall Street estimates. The adjusted EPS at $1.05 were above the consensus estimates of $1.02 and improved 13% YoY. Revenues totalled $2.39 billion, against $2.37 billion expectations. Moreover, the reported figure improved 6.3% from the number of the Q3 of 2018 helped by the higher comparable revenue per available room (RevPAR, a key metric in the sector).

Payments companies

Last but not least, the payment companies such as American Express, PayPal and Visa are good indicators of consumption as people use credit cards or other digital payments services to make their purchases.

American Express, the company associated with high net worth individuals, showed good results for the quarter. Cardholders are spending more and they are paying more on their balances, lifting the company’s third-quarter revenue and earnings per share just above Wall Street’s expectations. Net income rose to $1.76 billion, or $2.08 a share, from $1.65 billion, or $1.88 a share compared to the same period of last year. Revenues grew in all the three divisions of the company: Consumer Services by 11%, Commercial Services by 7% and Merchant and Network Services by 5%. According to Chief Executive Steve Squeri, “The trends we saw in the business this quarter continue to be consistent with an economy that continues to grow, albeit at a more modest pace than last year”.

Looking now at Visa, the payments company reported better earnings and revenue than expected, while cross-border payments volumes grew but less than expected. Revenues grew 13% YoY to $6.14 billion and Net income by 6.3% YoY to $3.03 billion. The EPS were at $1.47 against analysts’ expectations of $1.43. Alfred Kelly Jr, CEO of Visa, stated that extended and expanded partnerships with their largest clients globally together with partnerships with emerging companies across the payments ecosystem contributed to the good results posted, a trend that is expected to continue in the future.

PayPal, which facilitates payments on apps like Uber, eBay, Hulu, and Spotify among others, reported a 19% rise in its revenue at $4.38 billion, above analysts’ expectations of $4.35 billion. Shares, therefore, rallied the following day, given also the higher customers’ traffic than forecasted. The number of payment transactions per active account that measures consumer engagement also rose 9% to 39.8. Net income rose to $462 million from $436 million the previous year.

Returns YTD, as of 10/11/2019, for PayPal (blue), Visa (purple) and American Express (red)

The economy is still doing well

After the analysis of some of the third quarter’s earnings for this year, we can see that the US economy is still in good shape. This situation can be generalised somehow as we do not see any signs worldwide of an incoming recession, differently from a couple of months ago. According to a report issued by Bank of America Merrill Lynch, 77% of the corporates delivered better-than-expected earnings as of the 31st of October when more than 2/3 of the companies of the S&P 500 reported their results.

All CEOs from the companies analysed were confident on the economy, in particular in the US, stating that it is still growing although they acknowledge the slowing pace, due to geopolitical reasons.

So, one question is still present in investors’ minds: when will this so expected recession come to mark an end to the longest bull market ever?

Bibliography:

https://www.cnbc.com/2019/10/15/jpmorgan-chase-earnings-q3-2019.html

https://www.ft.com/content/a74525c2-ef64-11e9-ad1e-4367d8281195

https://markets.businessinsider.com/news/stocks/blackrocks-third-quarter-earnings-beat-expectations-profits-down-8-percent-2019-10-1028598914

https://www.cnbc.com/2019/10/15/citigroup-earnings-q3-2019.html

https://www.bloomberg.com/news/articles/2019-10-15/citi-axes-trading-staff-and-keeps-their-revenue-in-earnings-feat

https://www.cnbc.com/2019/10/22/mcdonalds-mcd-earnings-q3-2019.html

https://www.hotelmanagement.net/own/hilton-q3-income-largely-unaffected-by-low-revpar

https://www.cnbc.com/2019/10/18/coca-cola-ko-earnings-q3-2019.html

https://marketrealist.com/2019/10/coca-cola-earnings-increased-sales-drove-stock/

https://news.nike.com/news/nike-inc-reports-fiscal-2020-first-quarter-results

https://www.marketwatch.com/story/american-express-stock-surges-after-earnings-rise-above-forecasts-amid-higher-card-member-spending-2019-10-18

https://www.barrons.com/articles/american-express-stock-slips-earnings-51571410232

https://www.barrons.com/articles/visa-stock-strong-earnings-report-51571950326

https://www.cnbc.com/2019/10/24/paypal-pypl-earnings-q3-2019.html

https://www.cnbc.com/2019/10/15/goldman-sachs-earnings-q3-2019.html

https://www.ft.com/content/324c6f52-ee95-11e9-bfa4-b25f11f42901

https://www.cnbc.com/2019/10/17/morgan-stanley-earnings-q3-2019.html

https://bit.ly/2WRtAe0

The Rise and Rise of Private Equity

The past five years were fuelled with success for the private equity industry. During these years, more money has been raised, invested and distributed back to investors than ever before in the industry’s history. Let us give some figures: between 2000 and 2019 the number of Private Equity-backed companies in the US rose from less than 2,000 to 8,000. At the same time the number of publicly listed companies fell from 7,000 to about 4,000. The US private equity industry closed a record 5,106 deals, a rise of 32% on the previous year. These deals were worth more than $803.5bn. Now you get the idea. Private investment, in general, seems to be on a secular penetration curve that has no end in sight. Launched in its dynamic, nothing seems to be able to stop the incredible rise of Private Equity as illustrated by the Dr. Pepper Snapple and Refinitiv mega deals in 2018 and 2019 valued at more than $20bn each.

ssAnnounced at the end of January 2018 but completed in July 2018, JAB Holdings placed a bid to acquire Dr. Pepper Snapple through its portfolio company Keurig Green Mountain to create a beverage giant generating $11bn in sales revenues annually. Operating under the name Keurig Dr. Pepper, the new company’s brands include Keurig’s single-serving coffee business along with Dr. Pepper, Snapple, 7UP, A&W and Sunkist, among others. The deal, valued at c.$21bn was one of the largest private equity deals, a record that was dethroned as early as August 2019 by LSE’s acquisition of Refintiv for $24bn. As part of JAB and Keurig’s newest takeover, Dr. Pepper shareholders received $103.75 per share in a cash dividend, representing a reported $18.7bn, and will retain about 13% of the newly combined business. JAB and its co-investors, including BDT Capital Partners and Mondelez International, will invest $9bn in equity, while the $12bn balance of the transaction financing will be funded through debt from JP Morgan, BAML and Goldman Sachs. The growth of the companies has been considerable, with net sales progressing 196% to $2.81bn in Q2 2019 vs. previous year. The company has been able to maintain its Investment Grade rating from the major rating agencies S&P, Moody’s and Fitch and demonstrate a strong capacity to grow organically. In order to achieve an upgrade, the rating agency said that the company would have to successfully integrate the two businesses, produce solid operating profitability, sustain a ratio of net debt to EBITDA below 3x and show strong operating momentum. This has been achieved subject to synergies and working capital improvements and will ultimately result in an improved net debt to EBITDA leverage from 5.6x at closing to 2.8x in 2Q 19.

The blossoming Private Equity market has however been a source of controversies in the past decades, relating primarily to bumpy relationships between sponsors and beyond acceptable levels of leverage for portfolio companies. As a prime example, the 2003 CVC, TPG and Merrill Lynch takeover of Debenhams is one that still in 2019 has ongoing impacts. Debenhams’s shares were suspended in April 2019 after the company and its creditors turned down two last rescue offers from discount retail group Sports Direct, which owned close to 30% of Debenhams’ stock. Texas Pacific, CVC and the private equity arm of Merrill Lynch took control of Debenhams in 2003 and have been accused of burdening the firm with debt and making it difficult to close stores due to onerous leases.

The consortium of PE firms funneled just £600m of their own funds into the £1.8bn deal, while the rest was financed by new debt that Debenhams had to take on. Three years after taking Debenhams private, the PE houses drove for a re-flotation, with subsequent gains of more than three times the capital invested.

After gracing British high streets for over 200 years, Debenhams faced a “pre-pack” administration that will wipe out its shareholders, including Sports Direct which is estimated to have plowed at least £150m into the firm. While the Group’s holding company has gone into administration, its operating companies continued to trade as normal. The group then announced that it had appointed FTI Consulting as administrators and that they had immediately sold its operating subsidiaries to a new company controlled by its lenders, bringing to an end a four-month battle with Sports Direct and its billionaire founder Mike Ashley. The operating subsidiaries were sold to Celine UK Newco 1 Ltd, a company incorporated on March 22 and controlled by Silver Point Capital, a US hedge fund.

Although the level of debt fell after the company refloated in 2006, it held back capital investment. Debenhams was also slow to react to changes in shopping habits. It endured a particularly miserable 2018, during which it warned on profits three times, wrote down the value of its assets by £525m and its shares fell by more than 80%. Short-term thinking, chronic under investment, bucket loads of borrowing allowed the financiers to make off with bumper profits while the business was saddled with £1.2bn of debt it was never able to pay off. That debt pile prevented the firm from making the sort of investments that might have given it a fighting chance of weathering the storm that is now battering the bricks-and-mortar retail sector.

How Does Private Equity Look to Stand?

Private markets have gone from alternative to mainstream, becoming vehicles for investors to achieve exposure to various pockets of economic growth. Capital has poured in during the last years, and the industry has grown significantly, as funds look to raise capital and close deals in what continues to be a highly competitive market. Four key drivers have been identified in the upcoming growth of private equity.

 

  1. Low Interest Rates: Sell High, but Buy High also

The high dependency of the business to interest rates, stemming from the need for credit, loans and debt explains its subjectivity to the trends in global monetary policies. The current global economic conditions, where many countries have historically low-interest rates, is leading to capital superabundance. This does not serve PE firms looking to buy. Easy capital and competition over buying assets send prices soaring. High asset prices deter PEs from entering into a deal because companies are no longer undervalued. On the other hand, capital superabundance is a booster for sellers. IPO activity surges in a low interest rate environment. Thus, PE firms looking to exit have an opportune time when interest rates are low or declining as they can achieve higher valuation and much higher returns than anticipated. Both FED and ECB have expressed intention to maintain low-interests rate, so this pattern is expected to continue.

2. Increasing Concentration

The strong global fundraising market continues, although more capital flows into fewer hands. Approximately $100bn was raised in Q1-2019 alone, making it one of the most successful first quarters of the past decade. At the same time, the period saw less than two thirds the number of fund closings than in the first quarter of the previous year, largely due to continuing capital concentration. With these so-called “mega funds” being raised on a more regular basis, more capital is going to be raised by fewer sponsors and dry powder in the hands of major PE houses is supposed to increase consequently. In addition, PE sponsors are expected to face similar challenges to those in recent years in terms of getting deals done, given competition for assets and high multiples.

3. More Customized Accounts, more Liquidity, faster Deal Making

The desire for LPs[1] to customize their portfolios, cut costs and boost returns has sparked a shift towards more bespoke fund models, such as separately managed accounts. As a consequence, the GP stakes market keeps growing. Staking funds[2] has become an attractive alternative for LPs looking to diversify their investments. Staking transactions are also appealing to GPs who wish to secure long-term capital without taking their firm public. While the 10-year limited partnership is unlikely to disappear completely, the idea that LPs are locked into illiquid vehicles for a decade or more is likely to become a thing of the past. With the rapid growth of the secondaries market LPs will have no unwanted funds that have outlived their 10-year lives. In addition, use of technology is part of a broader trend to accelerate the speed of deal-making, which will be much more rapid in 10 years’ time, say observers.

4. Global Economic Uncertainty

Private equity firms have to adjust to a world of continued uncertainty as trade, regulatory and political change is the new normal. Deals are going to be underwritten with some cloud of uncertainty and with that, risk mitigation and management will be crucial to maintaining fund performance. Cross-border deals may become less inviting as risk-averse funds may limit their operations to known jurisdictions. Today, a more mature industry with more tools is shaping a bright future for itself, with both an agenda for growth and better defenses against the inevitable downturn, whenever it may come.

[1] A private equity firm is called a general partner (GP) and its investors that commit capital are called limited partners (LPs). Limited partners generally consist of pension funds, institutional accounts and wealthy individuals.

[2] A GP Stake Fund is like a PE investor who invests in other PE firms. A GP stake deal is a direct equity investment in the GP’s underlying management company.

Authors: Aimery Leroy, Giuseppe Bucalo, Cheikh Mbaye, Nikolas Schmitte.

Bibliography:

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Giant deal in the pharmaceutical sector: Bristol-Myers Squibb buys Celgene

Last 6th January, US drug manufacturer Bristol-Myers Squibb (NYSE:BMY) and Celgene Corporation (NASDAQ:CELG) announced that they have entered into a definitive merger agreement under which BMY would have acquired Celgene for an equity value of approximately USD 74bn.

The board of the two firms welcome the acquisition which will imply that Bristol-Myers Squibb’s shareholders will own about 69 percent of the merged company, while Celgene’s owners account for the remaining 31 percent. After the merger, the company will have nine blockbuster products with sales exceeding USD 1bn annually. The companies also see “significant growth potential” in the core areas of oncology, immunology, inflammation and cardiovascular diseases.

Celgene stock price decline on drug’s sluggish sales

Celgene is a biotechnology company based in New Jersey with around 8’000 employees. The firm develops, discovers and commercialises medicines for inflammatory disorders and cancer. Celgene had a troubling year 2017 as the stock price declined 37 percent from October to September. In the same year, the firm decided to abandon a late-stage Crohn’s disease drugs as well as two clinical trials along with it. Also, during the period the firm encountered lawsuits associated with its patents which suggested possible jeopardies in revenue. The firm had a troublesome 2017 missing its revenue expectations for the last two quarters and disappointing sales for the drug Otezla. Bad sentiment and business continued in 2018 as the shares lost nearly 40 percent in value during the year. Lately, the stock price has been trading 39.5 percent under its 52 week-peak value and changed 13.94 percent from the 52 week-bottom stock prices.

1Figure 1: Celgene Stock price’s slump in 2017

 

The buyer’s rationale of the deal

The deal creates a new pharma company with numerous blockbuster cancer drugs and many enhanced strengths to respond to the competition in the immunotherapy market. In fact, the competition has grown as Mercks’s rival treatment Keytruda has gained market share in the lung cancer treatment which is the most lucrative oncology market. Giovanni Caforio, chairman and chief executive officer of BMY explains that: “Together with Celgene, we are creating an innovative biopharma leader, with leading franchises and a deep and broad pipeline that will drive sustainable growth and deliver new options for patients across a range of serious diseases”. The acquisition creates a firm with nine drugs, each of them generating more than USD 1bn in annual sales, as well as a large pipeline of treatments which expect the potential peak sales of USD 15bn.  Some analysts claim that the acquisition will address the importance for Bristol-Myers to diversify from immunotherapy with the opportunity to generate enhanced margins, strong combined cash flows as well as robust EPS accretion. Mark Alles, Chairman and Chief Executive Officer of Celgene explains that: “For more than 30 years, Celgene’s commitment to leading innovation has allowed us to deliver life-changing treatments to patients in areas of high unmet need. Combining with Bristol-Myers Squibb, we are delivering immediate and substantial value to Celgene shareholders and providing them meaningful participation in the long-term growth opportunities created by the combined company”. Furthermore, he adds that: “Our employees should be incredibly proud of what we have accomplished together and excited for the opportunities ahead of us as we join with Bristol-Myers Squibb, where we can further advance our mission for patients. We look forward to working with the Bristol-Myers Squibb team as we bring our two companies together”.

2Figure 2: The greatest pharmaceutical deal summarised in key points

 

The largest healthcare deal ever: a financial overview

According to data elaborated by Bloomberg, Bristol-Myers Squibb takeover of Celgene Group values the target at USD 88.8bn, including net debt, even surpassing the Pfizer’s acquisition of Warner-Lambert, a deal occurred in 1999 for a total value of USD 87.14bn in stocks. With a forecast of achieving annual cost synergies of USD 2.5bn by 2022 and generating future earnings of over $6 per share, the Bristol-Myers acquisition became the largest pharmaceutical deal in history.

This transaction has been financed by a bridge loan of USD 33.5bn, the second highest US bridge loan recorded in the healthcare sector: Bristol has obtained fully committed debt financing from Morgan Stanley Senior Funding and MUFG Bank, while, on the other hand, JPMorgan Chase and Citi served as Celgene’s financial advisers.

3Figure 3: Top deals in Pharma consolidation (Deal value: $B)

One of the most relevant aspects of this deal, for Bristol-Myers Squibb, is access to a promising experimental CAR-T therapy. Celgene, indeed, acquired in 2018 Juno Therapeutics in a USD 9bn takeover deal: Juno Therapeutics is a biopharmaceutical company specialized on CAR-T cell therapy, a cancer therapy in which a patient’s own immune cells are genetically engineered to make them attack specific proteins on cancer, and infusing them back into the patient. CAR-T could become a highly profitable market over the next four years, with an estimated growth at a CAGR of 63 percent within 2023. Therefore, Bristol-Myers through this deal will have the potential for growth especially in oncology diseases, meanwhile taking advantage from the CAR-T market expansion.

Specifically, Bristol-Myers acquired Celgene through a cash-and-stocks deal, in which Celgene stockholders will receive one Bristol-Myers share and $50 cash for each Celgene share held. According to the boards of the two Companies, the deal, which they hope to finalise in the third quarter of 2019, will represent a 53 percent premium to the average closing price of Celgene shares over the past 30 days.

Besides this, the takeover is expected to generate 3 main financial benefits:

  • Strong Returns and immediate EPS accretion. The transaction’s internal rate of return is expected to be well in excess of Celgene’s and Bristol-Myers Squibb’s cost of capital. The combination is expected to be more than 40 percent accretive to Bristol-Myers Squibb’s EPS on a standalone basis immediately after the finalisation of the deal.
  • Strong balance sheet and cash flow generation to enable significant investment in innovation. With more than USD 45bn of expected free cash flow generation over the first three full years post-closing, the Company is committed to maintaining strong investment grade credit ratings while continuing its dividend policy for the benefit of Bristol-Myers Squibb and Celgene shareholders.
  • Meaningful cost synergies. Bristol-Myers Squibb expects to realize run-rate cost synergies of approximately USD 2.5bn within 3 years.

However, the days following the merger’s announcement showed a negative market reaction: investors indeed rewarded Celgene’s shares at a limited extent of 22 percent to $81.28, while shares in Bristol-Myers fell over than 16 percent to $45.1, that is USD 11bn of capitalization in less than 2 days (from USD 86.4bn to USD 76.5bn).

According to Brian Skorney’s words, senior research analyst at Robert W. Baird & Co., “this deal has not been driven by enthusiasm or excitement on either end”: Celgene investors were not thrilled after the deal, and Bristol investors were less than enthused. In this respect, Mizuho Securities USA after conducting a quick survey of about 100 clients, concluded that Bristol investors think the Company is overpaying for Celgene, therefore not approving the acquisition. This could be a possible justification for the slipping of Bristol’s shares.

4Figure 4: Bristol-Myers Squibb share price trend

5Figure 5: Celgene Group share price trend

What drives M&A in the Pharma industry?

The approval of US tax reform in late 2017 led to speculation that merger-and-acquisition activity would soon surge among pharmaceutical companies, due in part to tax-cut benefits accruing to sellers. In the first quarter of 2018, indeed, there were 212 deals in the sector worth more than USD 200bn. Bristol-Myers takeover follows a spree of tie-ups in the healthcare industry over the past four years: Japan’s Takeda last year has won shareholder approval for its USD 58bn megamerger with Shire, and a month ago GlaxoSmithKline announced it was buying Tesaro, a cancer-focused US biotech, for USD 5.1bn. According to some senior investment bankers who presented at the Forbes Healthcare Summit in NY last November, 2019 will be another active year for live science M&A deals, particularly in the biotech, payer, outsourced services and healthcare IT arenas.

Thomas Sheehan, head of global healthcare investment banking at Bank of America Merrill Lynch, stated that we are in a “biotech bubble” which is difficult to predict how long it will last.

We showed in the chart below the climb of the number of M&A transactions implemented in the pharma industry over the last 20 years.

6

According to this graph, we can point out that the pharmaceutical industry probably sees more M&A activity than any other industry, both in the number of deals and the amount of money spent on mergers-and-acquisitions operations. There are two main key drivers which justify the large amount of M&A activities in this industry:

  • Lowering R&D expenses. Most companies can no longer afford to carry out R&D to find innovative drugs: today, a company needs to invest between USD 2bn and USD 4bn per year in R&D to have a meaningful portfolio of drug development programs. In the long-term, only companies with revenue of US 10bn or higher can afford to have a substantial drug development program. The growing cost for the development of a new pharmaceutical drug drives large pharmaceutical companies in using M&A to exploit innovation sources outside of Big Pharma.

  • Capture synergies by scaling up. Pharma companies adopt such transactions in order to implement strategic changes: expanding their pipelines, broadening their product portfolios or reducing their investment costs.

In conclusion, deal-making is a fundamental tool to implement game-changing strategic moves to build companies fit to master future challenges, but M&A is essential for pharma companies also to get access to innovation, to prune business portfolios and to streamline operations in manufacturing.

 

Authors: Giovanni Cola, Edoardo Hähnel

Sources:

– Bloomberg, Seraphino P., Date: 3 January 2019, url: https://www.bloomberg.com/news/articles/2019-01-03/bristol-myers-s-celgene-deal-is-record-for-pharma-chart
– Forbes, Date: 7 January 2019, url:
https://www.forbes.com/sites/greatspeculations/2019/01/07/why-is-celgene-a-strategic-fit-for-bristol-myers-squibb/#161d36dc76c2
– Financial Times, Platt E. & Fontanella-Khan J., Date: 3 January 2019, url:
https://www.ft.com/content/560429c4-0f4f-11e9-a3aa-118c761d2745
– London Stock Exchange, Date: 21 January 2019, url:
https://www.londonstockexchange.com/exchange/prices-and-markets/stocks/summary/company-summary/US1101221083DEUSDSSX4.html
– Financial Lounge, Date: 7 January 2019, url:
https://www.financialounge.com/azienda/financialounge/news/bristol-myers-squibb-celgene/?refresh_CE
– Bristol-Myers Squibb Press Release, Date: 3 January 2019, url:
https://news.bms.com/press-release/corporatefinancial-news/bristol-myers-squibb-acquire-celgene-create-premier-innovative
– Fierce Pharma, Weintraub A., Date: 24 January 2019, url:
https://www.fiercepharma.com/pharma/bms-banks-celgene-merger-boost-as-abandoned-opdivo-lung-cancer-filing-overshadows-strong-q4
– SmithOnStocks, Smith L., Date: 3 January 2019, url:
https://smithonstocks.com/bristol-myers-squibb-negative-market-reaction-to-celgene-acquisition-is-a-buying-opportunity-bmy-buy-45-17/
– BIOPHARMADIVE, Bell J., Date: 22 January 2019, url:
https://www.biopharmadive.com/news/biopharma-deal-mergers-acquisitions-2019-trends/546369/
– Fierce Pharma, Weintraub A., Date: 19 December 2019, url:
https://www.fiercepharma.com/pharma/long-awaited-m-a-boom-will-hit-biopharma-2019-despite-persistent-worries-prognosticators
– McKinsey & Company, Bansal R., De Backer R., Ranade V., Date: October 2018, url:
https://www.mckinsey.com/business-functions/strategy-and-corporate-finance/our-insights/whats-behind-the-pharmaceutical-sectors-m-and-a-push
– KurmannPartners, Date: January 2019, url:
https://www.kurmannpartners.com/fileadmin/user_upload/170620_Newsletter_template_What_drives_pharma_manda_new.pdf
– SmartKarma, Date: 12 January 2019, url:
https://www.smartkarma.com/home/daily-briefs/united-states/daily-usa-celgene-acquisition-by-bristol-myers-squibb-a-call-to-arbs-and-more/
– Yahoo Finance, Date: 15 March 2019, url:
https://finance.yahoo.com/quote/CELG?p=CELG
https://finance.yahoo.com/quote/BMY?p=BMY

 

 

THE RISE OF GREEN ECONOMY, A NEW CHALLENGE FOR MANAGERS AND A NEW OPPORTUNITY FOR INVESTORS

Introducing the Green Economy

Investors have always looked at various elements for their investments in order to make the best choices and historically it was mainly a matter of returns. Responsible investments began in the 1960s as a social criterion, with investors excluding stocks involved in tobacco production or in the South African apartheid regime. For a long period of time, investors believed that ethical investments were reducing returns due to their nature. At the time, philanthropy was not known to be profitable. Furthermore, M. Friedman argued in the 70’s that the cost of behaving ethically would reduce returns.

However, due to the growing fears concerning climate change and new research (in particular Moskowitz’s in 1988) on the topic, Environmental, Social and Corporate Governance (ESG) factors became three leading criteria investors started looking at. ESG investing was given a shot in the arm when United Nations introduced the Principles on Responsible Investing (PRI) in 2006. The PRI has been signed by more than 2000 companies all over the world, including the main financial institutions such as Goldman Sachs, JP Morgan, Morgan Stanley or BlackRock and representing around $10.4 trillion out of the overall $89.6 trillion worldwide assets under management as of April 2018. The signatories have to commit to six voluntary principles such as, the incorporation of ESG issues into investment analysis and decision making and to increase disclosure about their environmental standards, their supply chains and their treatment of employees. ESG investing was even given a further push thanks to the Sustainable Development Goals (SDGs), a collection of 17 goals divided into 169 targets, set by United Nations in 2015 and to be achieved by 2030.

The same mainstream has been reached by Green Bonds, an investment solution that allows investors to generate profits while taking care of the planet’s health.

 

ESG investing

Nowadays many investors look at ESG factors to incorporate them into the investment process alongside with the traditional analysis. As you may have understood, now the approach to ESG investing is segmented into Environmental, Social and Governance factors. But those are only the three main criteria, whereas there are also subcategories for all of them. Regarding the Environment it could be divided into: climate change, natural resources, pollution & waste and environmental opportunities. The Social aspect mainly focuses on human capital, diversity, product liability, consumer protection and animal welfare. While Corporate Governance covers management structure, transparency, business ethics and employee relations.

Those factors can then be included in the investment process in two ways. Firstly, the “best in class” approach, focalizing into companies which within a sector have the best practices in term of sustainable development. Therefore, companies that are either polluting less or are having better social relations compared to companies in the same sector. Secondly, the “best in universe” approach, grouping companies that have the best sustainable development practices regardless of their sector of activity.

 

A growing trend

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During the past years we saw heavy inflows into ESG investments and an increasing demand for those (Social Responsible Investments, SRI, rose by 33% between 2014-2016, up to $8.72 trillion). According to various studies, this is just the beginning and it can be explained by three main reasons.

Firstly, as mentioned above, the world is changing. Investors are getting more and more aware of climate change and its implications. According to a survey of Morgan Stanley, millennials are two times more likely to invest in companies targeting social or environmental goals compared to the overall population. Furthermore, global sustainability challenge is introducing new risk factors for investors and may force them to re-evaluate their traditional investment approach preferring an ESG one. Secondly, because investors are changing. Quoting a study made by Accenture, in the next decades there should be a wealth transfer of $30 trillion from baby boomers to 90 million millennials, which should likely be translated into roughly $20 trillion put into ESG investing. And lastly, thanks to the evolution of data and analytics on this topic available in the market. Better data and transparency from the companies will allow ESG investors to have accurate and precise information for their investment process.

 

A new approach for financial returns

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As mentioned in the introduction, the main issue of ESG investing was the fear of lower returns, although some studies have proved the opposite. A recent MSCI study showed how companies with solid ESG practices have a lower cost of capital, lower volatility, and less bribery, corruption and fraud, in contrast to companies with poor ESG practices. The latter having higher cost of capital as well as higher volatility.

The graph above shows an analysis of the MSCI Emerging Market ESG Leader Index and the MSCI Emerging SRI Index returns compared to MSCI Emerging Markets Index. We can see that Companies with higher ESG ratings are usually associated with higher profitability, lower tail risk and lower systematic risk.

In order to invest in the right companies, asset managers are relying on more and more ESG rating agencies. Moreover, as the general demand is increasing, ESG indexes such as the Dow Jones Sustainability Index, the FTSE4Good Index, Bloomberg ESG data or the MSCI ESG Indices are rising in inflows.

 

Green Bond

A new initiative

Among the other market players, there is a non-profit organisation managing to mobilise a huge amount of money for climate change solutions. Its name is “Climate Bonds Initiative”, and the declared strategy is “to develop a large and liquid Green and Climate Bonds Market that will help drive down the cost of capital for climate projects in developed and emerging markets; to grow aggregation mechanisms for fragmented sectors; and to support governments seeking to tap debt capital markets”. By having a look its website, it is possible to figure out how its activities look like. Firstly, it manages the “Climate Bond Blog”, which is essentially a journal of record for relevant bond issuance including also some important industry updates, as well as drawing up a report concerning global outstanding bonds. The second workflow is related to developing trusted standards. The aim of these standards is to lead investors when making the right choice in order to tackle climate changes. Lastly, they provide policy proposals in the attempt to harmonise the work between governments, finance and industry.

At this point, someone could ask why there was the necessity to give birth to such a specific organisation. The answer lies in the overpowering rise of the abovementioned securities known as “Green Bonds”. These are issued by financial institutions, governments or companies allowing investors to receive their own returns but at the same time to contribute financing climate and environmental projects, and there is nothing else more right to do. In order to be labelled as Certified Green Bond, a security must undergo a strict process, at the end of which an Approved Verifier submit an assurance report to confirm that the bond meets the Climate Bonds Standard’s requirements. However, the Climate Bonds Standard Board has the final word. Certifications can be split in Pre-Issuance and Post-Issuance Certification, and they are available for asset related to specific sectors, currently including Solar Energy, Wind Energy, Geothermal Energy, Marine Renewable Energy, Water Infrastructure, Low Carbon Transport & Low Carbon Building. Nevertheless, other assets related to different sectors can be published after being approved by the Climate Bonds Standard Board. After the Post-Issuance verification, issuer’s duties are not over, since it is asked to provide the Climate Bonds Secretariat with annual reports with the purpose of keeping the compliance with the requirements.

 

2018 figures

Since their inception, Green Bonds have represented an unstoppable phenomenon that has seen the greatest global institutions as major players. The first socially-responsible fixed income security (€600m) has been issued in 2007 by the European Investment Bank, followed one year later by the World Bank, which issued the first Green Bond in history (€400m).

From 2008 on, a great work has been done in order to enhance the process, achieving relevant results. If we have a look again at a document from Climate Bonds Initiative, the 2018 Green Bond Market Summary, we can find some interesting figure that can help us understanding why last year has been exceptional concerning the green economy. Global green bond issuance reached $167.3bn in 2018, a figure that represents a 3% increase on 2017. Specifically, there have been 1,543 green bond issues from 320 issuers from 44 countries. The largest single green bond has been issued by Belgium with €4.5bn. USA has occupied the top spot in the bond issuance rankings for countries, followed by China and France. These three countries have already been ranked in the same positions in the previous years, and put together they have accounted to roughly $80bn issued in 2018. Consequently, it is easy to understand why the largest global issuer is an American company (Fannie Mae, $20.1bn), and the second one is Chinese (Industrial Bank Co, $9.6bn).

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Source: Climate Bond Initiative – 2018 Green Bond Market Summary

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Source: Climate Bond Initiative – 2018 Green Bond Market Summary

In addition, also Emerging Markets are playing a key role in the sector. With the contribution of Supranational Development Banks, EM accounted to the 31% of the total issuance. Obviously, China leads the group with 78% of EM’s issuance. Thanks to the introduction of the ASEAN Green Bond Standards, issuer from Thailand and Indonesia joined the market, with the latter becoming the first sovereign bond issuer from Asia in March 2018. On the European side instead, Poland, Iceland, Lithuania and Slovenia have been the major contributors.

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Source: Climate Bond Initiative – 2018 Green Bond Market Summary

 

Outlook 2019

Fortunately, also the outlook for 2019 seems to be positive according to Moody’s Investors Service. Indeed, the rating company has forecast green bond issuance to increase up to $200bn globally, representing a year-on-year growth of c.20%. The driving factors will be the increased use of the United Nations’ Sustainable Development Goals (SDG), as well as the “heightened commitment to addressing climate change”. Moreover, not only just an overall increase is expected, but also a consistent diversification in terms of sector, region and use of proceeds. Lastly, the fact that it will be easier to qualify a project as green is going to be beneficial for the growth of the sector as well.

However, not only Green Bonds market is about to explode in 2019, but also Social and Sustainability Bonds are pushing to reach a recognised position. With the birth of the SDG frameworks in 2018, investors are now able to decide where to channel their money to bonds financing green projects or to those financing social ones. According to CBI, Sustainability Bonds issuance has risen up to $21bn, a figure representing a 114% growth over 2017. Considering these trends, it is reasonable to point out that 2019 will be the year of a great consecration.

 

It’s just the beginning

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The investors’ change of mindset is shifting the world from a sole return-driven perspective to a more ethical and sustainable way of investing. This process is clearly helped by the implementation of new regulations by the United Nations and financial institutions. This is taking time and energy; and there is still a lot to do. As a study of PIMCO illustrates, although a lot of companies have a high level of awareness of the SDGs, only few are setting quantitative targets, letting us think that many are struggling to translate well-intentioned resolutions into action.

A key challenge is to develop an agreed set of performance indicators that shows a company’s target and progress. This would be extremely important for investors, in order to compare the SDG contribution of companies. We encourage financial institutions and private investors to do so and to keep on making investments in a more responsible way (obviously with the objective of delivering returns).

Is all this going to lead to a permanent change in investors’ mentality or are we just witnessing a fancy, but temporary, trend?

 

Authors: Federico Giorgi, Thomas Bauzon

 

Supervisor: Carmen Alvarez

PART I – What happened in 2018? Bain & Company “Global Private Equity Report 2019”

1. PE funds produced another impressive surge in investment value in 2018, capping the strongest five-year stretch in the industry’s history. Fierce competition and rising asset prices continued to constrain deal count (i.e. the number of transactions fell by -13%, to 2,936 worldwide) with total buyout value jumped +10% to $582bn supported by a strong growth of public-to-private transactions which globally reached their highest value since the previous take-private boom in 2006–07.

pe1

2. Despite the steady pace of investment, PE dry powder has been on the rise since 2012 and hit a record high of $2tr at year-end 2018 across all fund types and $695bn for buyouts alone. The build-up of excess capital is putting pressure on PE firms to find deals, but the good news is that buyout firms hold 67% of their dry powder in funds raised over the last two years, meaning the recent deal cycle is clearing out the older capital and replacing it with new.

pe2

3. The stiff competition and high multiples (i.e. 10.9x was the average EV multiple for North American buyouts in 2018) that made it challenging to find deals in 2018 also made it a great time to exit. With 1,146 transactions valued at $378bn, exit activity came in a smidgen lower than in 2017, but the total was still a strong contributor to a historic five-year stretch that has produced unprecedented distributions for investors. There was clearly some urgency on the part of GPs to sell assets, as signs of economic weakness pile up. The median holding period for buyouts fell last year to 4.5 years, after edging down slowly from a peak of 5.9 years in 2014. PE funds continued to attract an impressive amount of capital in 2018, although the pace fell off from 2017’s record-breaking performance. GPs raised $714bn from investors during the year (i.e. the third-largest amount ever) bringing the total since 2014 to $3.7tr. LPs remain committed to what has been their best-performing asset class (i.e. 90% of all institutional investors say they intend to maintain or increase their PE allocations).

pe3

4. After several years of heavy stock market volatility around the world, buyout funds continued to outperform public equity markets in all major regions, over both short and long time horizons. At the same time, buyout returns in the current cycle have not been as robust as they were in the previous cycle. As the overall PE industry has matured and become more competitive, the outsize returns that GPs could once earn on a large pool of undervalued assets are harder to find. Yet, top-performing funds still exceed the industry average by a relatively wide margin.

pe4

SOURCES

US monetary policy influence on an increasingly globalised economy

From Quantitative Easing to Tightening Policies

On Tuesday 16th December 2008, following the recession, the Federal Reserve lowered its benchmark interest rate to a range of 0 – 0.25%. The central bank also implemented the Quantitative Easing, which consists in purchasing US Treasuries and mortgage-backed securities to increase liquidity and stimulate the economy with new printed money.

In December 2015, based upon a better economic backdrop, Janet Yellen as Chair of the Fed, began a tightening policy. Since then, the Fed has raised the interest rates by 25 basis points 9 times, rising from 0 – 0.25% to a range of 2.5 – 2.75% in only 3 years. Since Jerome Powell succeeded to Yellen as Chairman of the Fed, his increasing confidence in the US economy, based upon accelerating inflation and a solid economic backdrop, allowed the Fed to raise the interest rates 4 times in 2018. While the Fed had signaled it would probably raise rates twice in 2019 and twice in 2020 to finally reach 3.5-3.75% in 2020, a dovish January Fed meeting changed expectations as it seemed the central bank would be more patient than expected regarding a future rate increase.

Figure 1: Federal Reserve’s funds rates increasing over time

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   Source: Macro Trends

Borrowers taking cautious stances

Since the tightening policy began in December 2015, signs of rising inflation, pushed the central bank into a more hawkish direction, raising the rates by 2.25% in 3 years. A moderate rising inflation is indeed an indicator that the economy is doing well, and it paves the way for salary increases but also interest hikes. Higher rates allow a better yield for savers, but it also means consumers and business will face higher costs when they want to access credit. Even more worrying, with US incomes still relatively flat, higher interest rates mean many homeowners with flexible-rate mortgages may be unable to repay their loans. This was one of the causes for the subprime crises: people took on mortgage debt at a very low interest rate thinking they would be able to reimburse it, but when the rates increased, they found themselves with not enough liquidity to pay back their interests on debt and lost a major part of their savings. And not only…

Bond holders see their prices fall…

A tightening monetary policy is a negative news for investors who see the price of their bonds fall. Interest rates and bond prices have an inverse relationship; meaning if one goes up, the other goes down. Therefore, if the interest rates increase, the value of a bond will decrease. The reason for this is that new bonds can now be issued at a higher yield and will therefore give a higher return than the bonds which are already on the secondary market pushing the demand for the existing bonds down together with their price.

“If the Fed is buying Treasuries, investors have to go further out the risk spectrum in search of returns,” said Subadra Rajappa, head of US interest rate strategy at Société Générale. “So, if the Fed is unwinding QE then the reverse should be happening. It should be negative for credit spreads and equities”.

…and so do equity holders

It seems the market wasn’t prepared to switch to quantitative tightening as US stocks had their worst December since 1931. The S&P 500 Index fell 15.7% between December 3rd and December 24th, when it reached its lowest point of the month. The Dow Jones Industrial Average fell 15.6% entering the correction zone.

Equities usually underperform during tight monetary policy periods. The higher the interest rates, the easier for investors to find low risks investment with high yields, such as bonds. As risk appetite is restricted, equities sell-off drives stock markets prices lower. On the other hand, higher interest rates environment impacts investor confidence that the economy is growing strongly enough for the corporations to offset the impact of higher borrowing costs.

Figure 2: S&P 500 (blue) and Dow Jones (red) Indexes falling for the month of December2

The impact on the Yield Curve

The Yield Curve is a graphic representation of the interest rates at different maturities for a given credit quality. The most common yield curve compares different maturities of the U.S. Treasuries. The tightening policy of the Fed controls short-term interest rates but has very little impact on the long-term. Therefore, the Fed monetary policy has a crucial impact on the Yield Curve. As shown on the graph below, as short-term interest rates rise, the spread between the short-term and long-term maturities diminishes, which causes a flattening of the yield curve over the years. Concerns rose around the flattening of the yield curve as it means investors do not expect to get a higher yield for long-term investments than for short-term investments even though long-term ones are riskier. In other words, it means investors expect an economic slowdown in the future.

Figure 3: US Treasury Yield Curve

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Source : Guru Focus

The flattening Treasury yield curve has also raised concerns as it paves the way for a future inversion. An inverted yield curve is an interest rate environment in which long-term debt securities have a lower yield than short-term debt securities. It means that investors expect their return to slow down in the future, hence, an inverted yield curve has often been seen as an anticipator of a recession, as it has been historically observed twice and both times it was the case. The Fed takes into account inflation, economic growth and unemployment when voting for a rate hike, however it may also take into account the yield curve and pause hikes if it were to flatten further or possibly inverts.

Figure 4: The visual representation on the inverted and the normal yield curves

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Source : Forbes

The impact on Emerging markets

Fed’s U-turn from Quantitative Easing (QE) to Quantitative Tightening (QT) is pretty significant for emerging markets (EMs).

As already said above, following the financial crisis, the Fed injected liquidity into the market aiming to ease financial conditions and borrowing costs by increasing demand for relatively safe assets. As a consequence, prices rose, and interest rates fell (this is the supposed effect of a QE).

Central banks across EMs followed suit, to allow non-financial corporations to get cheaper debt, consequently, private credit across EMs ballooned. Now that central banks are holding their current portfolios of bonds until maturity and selling the assets on their balance sheets to the market (QT), that private credit has started to shrink (Figure 5). Given that “credit creation has been the most important driver of asset prices for decades” as credit creation has pulled back, economies have tumbled.

Figure 5: Private sector credit creation started falling

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Source : National Central Banks

EMs have strongly been affected by this unwinding for two main reasons:

  1. They binged the most on the giant pool of cheap money in the years since the crisis
  2. As the Fed started shrinking its balance sheet, as observable on the appendix 1, the supply of global dollars will also shrink making it more expensive. The dollar rally in 2018 worsened currency crises in the economies with large dollar-denominated debt (Appendix 2).
  3. Higher interest rates in US means higher returns for dollar-denominated banking accounts that increase investors’ demand for dollars consequently making the USD more expensive vs other currencies (Appendix 3). 

Appendix 1: Fed’s balance sheet, showing a steep increase after the 2008 crisis and now starting to decrease

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Source : Bloomberg

Appendix 2: the huge evolution of the Chinese debt in US dollars value, representative on the EMs debt trend

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Source : IMF data, Tradingview representation

Appendix 3:  Balance sheet roll off is supportive for the Dollar

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Source : CitiFX, Bloomberg

Authors: Noa Lachkar, Greta Pontiglio

Supervisor: Lorenzo Bracco

Small investment bank boutiques cash in on mega M&A deals

(On the right side is Simon Warshaw and on the left side is Michael Zaoui)

 

While it’s normal that big name players take mega deals in M&A market, small investment bank boutiques in London have shared a bigger slice of the pie than ever before, and, many times, some of them are beating big names.

Robey Warshaw, a Mayfair based investment bank boutique with merely 13 members, had a market share of 20.4% and an announced deal volume of about $65.6 billion through 1H2018 in the UK M&A market, according to the Bloomberg Global M&A Market Review 1H2018, overcoming giants such as Bank of America Merrill Lynch ( UK market share19.1%, deal volume: $61.6 billion), Goldman Sachs (UK market share: 18.8%, deal volume: $60.6 billion) and Rothschild (UK market share: 18.4%, deal volume: $59.2 billion) etc.. Interestingly, Robey Warshaw had only 3 deals to achieve a deal volume as high as $65.6 billion, comparing to an average of approximately 30 deals for other top-10 investment banks on this list (as shown in the table). With an average deal size of $21.9 billion,Robey Warshaw beat almost every company on this criterion.

 

Finance 1

Finance 2

 

Another mega-deal investment bank kiosk is Zaoui & Co. Established in 2013 by Morocco-born brothers, Michael Zaoui and Yoël Zaoui, Zaoui & Co had 12 employees in 2015, of which only 7 were bankers. It is worth noting that both brothers held a senior role in major investment banks: Michael was the head of M&A division at Morgan Stanley and Yoël at Goldman Sachs. Although the company was not on the top 20 deal-maker list in the 1H2018 report, which is mainly due to a lack of large deals and a nearly 60% shrink in French M&A market, according to Michael Zaoui’s interview with Financial News, it showed a strong performance in 2014 and 2015, only two years after it was incorporated. In 2014, the company advised GlaxoSmithKline PLC (“GSK”) to acquire 36.5% of stake in Consumer Healthcare Joint Venture of Novartis AG (“Novartis”) for $13 billion. There are other transactions involved which push the total amount to $57 billion. The deal was closed on 1st June 2018. In the same year, Zaoui brothers also advised a major merger in the manufacturing industry, helping Lafarge and Holcim to form LafargeHolcim, now the industry’s biggest player. The transaction involved is about €40 billion. Different from Robey Warshaw, which mainly puts its focus on the UK M&A market, Zaoui & Co. has broader geographical coverage. It has been developing its market in France, Italy, and Switzerland and also working on deals in Israel, according to the Financial News.

 

Comparing to the similar size UK kiosk advisors (another name often used for investment bank boutiques), which often have deals with transaction volume between $10-300 million, these two investment bank boutiques had an eye-catching performance, often with multi-billion deals. Reason? Their owners were superstars in big-name investment banks long before building their own businesses. Robey Warshaw has a team with Sir Simon Robey, Philip Apostolides, and Simon Warshaw. Sir Simon Robey was the former co-head of global M&A at Morgan Stanley, while Mr. Apostolides also held a senior investment banking role at the same bank. Mr. Warshaw was the former head of investment banking at UBS, according to FT source. Michael Zaoui was a colleague of Simon Robey in Morgan Stanley for many years; even now, their offices in Mayfair are merely a few hundred meters away. While both were co-head of global M&A in Morgan Stanley, Simon Robey focused more on the UK deals while Michael on continental European ones. This is correspondent to the different geographical exposure and strategies of Robey Warshaw and Zaoui & Co now. The former did the most of deals in the UK while the latter focuses primarily on continental Europe. Yoël Zaoui had spent about 25 years in Goldman Sachs and left as the head of the global M&A before founding the company with his brother in 2013. There is “fantasy football team” of London’s leading merger & acquisition advisers on the wall in Zaoui & Co’s boardroom, drawn up by a financial journal, according to EveningStandard. In goal is Karen Cook. The right full-back is Simon Robey. At right center is Richard Gnodde. Occupying the two striking positions are Michael and Yoel Zaoui. When all-star players team up, no wonder they can hit the goal that even big banks cannot.

 

Robey Warshaw and Zaoui & Co. are just two typical examples of investment bank kiosks. LionTree Advisors LLP (example transaction: Liberty Global’s acquisition of Virgin Media, $23.3 billion) and many others are advising multi-billion deals with just a few bankers in the office. Nonetheless, M&A advisory was never a labor-intensive industry. Thanks to their structure, top tier boutiques can generate an incredible amount of profits with small teams. Zaoui & Co, for example, earned an approximate £17.3 million turnover and an £8.6 profit. Between these two numbers is an administrative expense of £6.4 million, and employee cost was more than £5.3 million for a total of 13 staffs. In conclusion, with a strong network of the top management and an experienced team loaded with talents who worked for big banks, these firms have proven the ability to win the trust from big clients and play a leading role in the most relevant deals in the market.

 

Autor: Yintao Hu

Sources: