M&A-capex inversion wrongfoots stock-pickers

May 1, 2014

By Swaha Pattanaik

The author is a Reuters Breakingviews columnist. The opinions expressed are her own.

Resurgent business investment was supposed to lift equity markets this year. But things are not turning out as expected. The bigger beneficiaries of spendthrift chief executives appear to be takeover targets rather than firms whose earnings reflect shifts in global capital expenditure. That calls for a different investment strategy.

The backdrop certainly appears propitious for business investment: firms worldwide are sitting on $7.5 trillion in cash and rates are low. But capex has yet to take off. Instead, the same conditions have proved ideal for mergers and acquisitions. The value of deals announced this year has already topped $1 trillion, Thomson Reuters data shows. That is 35 percent higher than the same period in 2013 and only the third time since 1980 that the $1 trillion mark has been surpassed so early in the year. A handful of mega-mergers flatter the figures, but this is still strong evidence that market conditions are ripe for M&A.

Economic recovery has boosted business confidence but is not strong enough to turbo-charge sales growth. Investors are again taking the risk of buying initial public offerings, and so are more supportive of companies that announce deals. That makes it far more tempting for companies to use M&A to boost their competitive position instead of waiting years for capital expenditure to yield rewards.

Small wonder then that deals funded with just cash or with a mix of cash and stock are more prevalent than usual so far this year, according to Thomson Reuters data.

Deal mania favours companies that have hard-to-replicate activities or unique geographical reach and which sit beside cash-rich peers in the same sector. Beneficiaries of higher business investment tend to be companies which generate a high proportion of their revenue from selling to other firms rather than directly to consumers. The universes don’t always overlap. For equity investors in general, a wave of value-creating mergers ought to buoy markets. But for stock-pickers seeking outperformance, it calls for nimble feet.

Comments

May I suggest that you develop metrics for this interesting analysis and use them to create another stock screen option on this Reuters site.

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