KUHN CAPITAL Monday, March 19, 2018
Dispatches from the front

Can You Time M&A?


A group of academics recently published an intriguing study arguing that if you buy a company at the beginning of a consolidation wave, your chances of succeeding with it are much improved over waiting till the wave matures.

The article, “The Performance Implications of Participating in an Acquisition Wave” appears in this month’s Academy of Management Journal and was penned by Gerry McNamara, Bernadine Johnson Dykes and John Haleblian.

The authors claim that those who close deals early in the cycle rather than later are far more likely to prosper. Doing “well” is defined by the acquirers’ share performance compared to that of the broad market. To be more specific, the stock prices of early buyers rise 7% higher than late buyers. So the professors believe that even in M&A, first-movers gain an advantage.

We think these findings make sense, if only because with every M&A cycle (measured as rising then falling M&A transaction volumes and deal values), we see prices escalate until they become untenable, then fall back as buyers abandon the chase. In most cases, this price inflation is sparked by cheap debt, setting off a chain of ever-higher EBITDA multiples as deal competition increases, finally collapsing as over-leveraged acquirors crash and/or lenders get cold feet. In the current down leg of the M&A cycle, the bankers’ cold feet crept in from two related phenomena: continuing chaos over in the neighboring sub-prime debt sector, and recession fears.

What’s the lesson? If timing matters, then now isn’t a bad time to start looking for deals. Middle-market transaction volume is down about 25% from its height last year. Prices are also down, though not by as much.

Of course, the problem with all timing is knowing what’s next: are prices as cheap as they’ll get, or can they go lower?

For many, there’s another, probably more serious, impediment to action: we’re all constantly reminded how we shouldn’t try to populate our investment portfolios with timed purchases. It’s not prudent. Much better to engage in a deliberate, sustained program through both the ups and downs, like GE’s acquisition program. But as you would expect, GE’s acquisition timing (or lack thereof) appears to have produced mediocre stock performance.

In fact, most CEO’s are even more conservative than the individual investor, what with boards, class-action litigators and Sarbanes-Oxley second-guessing every substantial move. They are warned that acting early may be impetuous, while coming in late is appropriately conservative. It's easier to jump on the bandwagon than to lead it.

Nonetheless, note the consistent success of Warren Buffet, a committed contrarian. And Baron Philippe de Rothschild famously advised to “Buy when there’s blood in the streets.” Finally, we point to the frenetic fund-raising activities of giant hedge funds and private equity groups, raising war chests for future acquisitions as we speak.

Will these entrepreneurs once again get a timing leg-up on “strategic” operating company buyers? Probably.

Ryan Kuhn

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