RISING TIDES: CONTINUED GROWTH IN FINANCIAL SERVICES M&A ACTIVITy
In the years following the financial crisis, the U.S. financial services industry has weathered a myriad of economic and regulatory challenges which negatively impacted performance, constricted liquidity and hampered deal activity. With continued economic improvement, technology enabling differentiation, and strengthening fundamentals across the financial services sector, deal activity has seen a continued upward trajectory through the end of 2015. In fact, financial services M&A activity reached its highest peak in 2015 compared to any point over the last 10 years.
KEY 2015 M&A TRENDS
There were a total of 1,267 financial services deals in 2015, with an announced deal value of $264 billion. The number of deals with a value over $1 billion (i.e., “mega-deals”) also reached a peak in 2015, with 35 deals representing $233 billion or 88% of total announced deal value.
• Although there has been a marked increase in the pace of banking deals since the financial crisis, (excluding government-assisted transactions), recent deal activity remains somewhat flat. There were 285 deals in 2015 representing $27 billion of announced deal value. While five mega-deals accounted for $14 billion or 54% of announced deal value, the majority of transactions related to consolidation amongst banks with less than $1 billion in assets.
• There were 331 deals in 2015 in the other (non-bank) financial services sector, with an announced deal value of $91 billion. This includes a record 19 mega-deals representing $79 billion or 87% of the total announced deal value. Financial technology and specialty finance transactions dominated this segment, representing a total of 259 deals and 86% of the total announced deal value in 2015. Pervasive and continued advancements in technology will drive substantial growth in financial technology deals, spanning the financial services spectrum. Expect sustained mid- to high-teen deal multiples for innovative firms with a proven track record of high quality growth.
• Insurance represented the most active financial services subsector, with 521 transactions representing an announced deal value of $143 billion. While 451 insurance brokerage deals represented 87% of insurance deal volume, they only accounted for around 2% or $3 billion of announced deal value. Insurance underwriter acquisitions by strategic acquirers accounted for the lion’s share of announced deal value.
• Asset management deal activity remains robust, with 130 deals in 2015, compared to 91 deals in the prior year. Average deal values for announced asset management deals, excluding mega-deals, appears to have declined from $108 million to $88 million over the same period. While deal activity remains strong, the decline in pricing likely reflects the impact of recent financial market volatility on valuations, narrowing the bid-ask spread between buyers and sellers.
Focused growth: A bigger role for private equity
Although private equity deal activity has tripled since its low point in 2009, financial services M&A remains dominated by corporate buyers. Corporates represented 1,169 deals with a disclosed deal value of $252 billion, compared to private equity investors, which represented 98 deals with a disclosed deal value of $12 billion. While corporates will likely continue to dominate larger, balance sheet-heavy deals in more-highly regulated subsectors, private equity firms will play an increasingly dominant role in deals involving commercial lenders, specialty finance companies, financial technology firms, insurance brokerage firms, and asset / wealth managers.
Of the 98 private equity deals announced in 2015, 48 related to insurance brokerage, 16 related to financial technology and six related to specialty finance transactions. These three subsectors accounted for over 71% of all private equity-backed deals in 2015. We believe these three subsectors will continue to represent the most significant areas for investment by private equity firms.
DISRUPTION AND EVOLUTION: KEY TRENDS TO WATCH
Continued improvement in the U.S. economy, characterized by sustained GDP growth, declining unemployment, historically low interest rates, lower energy prices and growing consumer confidence, gave buyers and sellers the confidence to push forward with deals in 2015. While recent financial market volatility and global economic concerns have tempered growth expectations in the near-term, we believe the pace of financial services deal activity will persist.
We believe the following key trends and themes will drive M&A activity across the financial services sector over the coming years:
• The impact of technology is pervasive, from the use of big data to understand customer behavior and improve underwriting, to driving new customer and asset acquisition. Growth in emerging collaborative technologies such as blockchain are already impacting recordkeeping and transaction processing capabilities across the financial services sector. Continuous disruption and disintermediation by technology-enabled market entrants will spur innovation and deal activity.
• Regulators will continue to play an integral role in the banking, insurance and consumer finance subsectors, intensifying their interactions with incumbents and new entrants. While uncertainty over the extent and nature of regulatory oversight remains, savvy investors will look through the regulatory white noise and seek to execute deals rather than wait on the sidelines for future clarity.
• The largest financial institutions will continue to divest non-core businesses while competing aggressively with new entrants for growth; expect growth in deal activity as incumbents seek to use their considerable capital to acquire knowledge and market share.
• Innovation and investment will be drawn towards business models that are scalable, highly data intensive and capital light.
• The proliferation of financial services offerings for the nonprime and underbanked segments will continue. Technology will increasingly enable more efficient and effective underwriting, streamlined processing and servicing, and disintermediation across the sector.
• Scale from consolidation will become critical for an increasingly commoditized financial services sector; growth from the realization of cost synergies and footprint / product expansion will continue to spur deal activity.
• Challenging organic growth opportunities and a historically low interest rate environment means new asset generation remains difficult. The inevitable, albeit measured increase in interest rates, will enhance lender profitability, increasing their attractiveness to investors.
• While historically less prevalent compared to other industries, expect activist investors to play an increasingly active role in driving M&A activity across the financial services spectrum.
CLOSING THOUGHTS
The pivotal role of technology is giving rise to structural changes across the financial services sector. As the industry adapts and evolves, M&A activity will play a continued role in this growth story. Investors who understand the impact of key risks and drivers of deal value at the most granular level will be in a position to execute the most successful transactions. A robust and deeply analytical diligence process by sellers and buyers will be of critical importance to ensure that contingencies, synergies and risks are identified and quantified before the consummation of a potential transaction.
Source: Alvarez & Marsal – http://bit.ly/1Q4XBkK
The health care industry’s last 10 years have been characterized by dynamic and paradigm-shifting changes, and yet, in some ways, many of the healthcare industry’s key sectors look and feel the same they always have. Ten years ago, the universe of health care financial investors largely included those that had invested significant efforts to understand the complexities associated with providers and related reimbursement risks. As such, within the provider care sector, these private equity investors tended to compete with strategic buyers for opportunities to buy and build multi-location provider care business in both acute and post-acute care settings. Despite some cyclical reimbursement influences, these business models, and the related M&A activity, are generally the same 10 years later.
However, in the last 10 years, the counter-cyclical nature of health care and its ever-increasing contribution to the United States Gross Domestic Product has drawn many financial sponsors to an industry others previously viewed as too risky due to regulation and complexity. More importantly, the numerous changes influencing the industry have prompted private equity recognition of investment opportunities. In the last five years, the deal landscape has seen the dramatic influences of healthcare reform with The Patient Protection and Affordable Care Act, increased regulatory scrutiny, continued shift to outpatient settings of care, a rush to physician employment, healthcare consumerism and sector-specific reimbursement cuts and payment model changes. As a result, we witnessed robust and unparalleled M&A activity during the last decade.
The influences driving industry change created new business models and, thus, new opportunities for investment. We’ve seen private equity investment in companies poised to bend the cost curve or capitalize on evolving and uncertain payment models (e.g., bundling, pay for performance, etc.). These emerging business models are both broad and deep – examples include (i) companies founded to manage post-acute care delivery to patients in evolving bundled payment models and (ii) technology-based concerns that optimize care coordination and reduce unnecessary utilization. Simply, the innovation and entrepreneurialism underpinning business models that didn’t exist ten years ago significantly grew the number of financial sponsors investing in the industry.
The next five years promise similar opportunities (and challenges), as we’re on the precipice of evaluating the impact of a number of key industry changes, including the impact of value-based payment models, accountable care organizations, etc.. With the American demographic as it is, healthcare – the provision of and payment for healthcare services, industry innovation, capital market influences and the like – will continue to drive tremendous investment opportunities underpinning M&A growth.
In 2016, Alvarez & Marsal’s Transaction Advisory Group celebrates 10 years of service to the private equity community. In that 10 year time period, the M&A market has presented both tremendous opportunities and tremendous challenges. Consider this: in the last 10 years, we have seen some of the lowest deal volume in the period, with 9,870 deals completed in 2009, to the highest with 17,500 deals completed in 2014 – or a peak to trough spread of over 75%.
However, what is also borne out by the numbers is this: the amount of money to invest – “or dry powder” – has been on an overall ride up to record highs in the last 10 years: from $404 billion to $1,343 billion in 2015. That is an increase of approximately 230% over a 10 year period. Today there is significant capital to be put to work, and significant work to be done getting portfolio companies ready for sale.
When Alvarez & Marsal launched its Transaction Advisory Group in 2006, it was based on the belief that the firm was uniquely positioned to navigate these volatile global market conditions. Our business has indeed been built on the concept of “counter-cyclicality”. We have created a global, integrated suite of services that delivers value to our clients throughout the volatility of the M&A market these last 10 years. As potential market disruptions continue– election cycles, geo-political issues, and new technologies that can change business models overnight – the A&M Transaction Advisory Group is well equipped to meet the ever changing needs of private equity investors.
As we look back over the last 10 years since the inception of the Global Transaction Advisory Group at Alvarez & Marsal, there has been both an evolution and maturation in the private equity investment model during the period. In the more mature markets such as North America and Western Europe, this has largely resulted from the worldwide financial crisis of 2008; the shifting dynamics of emerging markets in such places as Latin America, India and China significantly influenced private equity investing in those regions as well.
Prior to the financial crisis of 2008, with soaring stock markets and real estate values, the availability of cheap debt to finance deals and generally less competition, private equity investing in North America and Western Europe was a game of buy low, sell high and improve returns largely though financial engineering. However, post-financial crisis the game has changed dramatically – with private equity buyers facing intense pressure to deploy capital resulting from a massive capital overhang along with an extended low interest rate environment – these factors have driven up valuations tremendously. Today, in order to create alpha, private equity investors in these regions are required to buy high and sell even higher – creating value and hence returns by enhancing their investments through operational performance improvement initiatives.
The emerging markets of Latin America, India and China have been influenced by different variables. At the beginning of the historical 10 year period, private equity investing in these regions relied heavily upon riding minority investments to exit through the ever-rising public markets (IPO). However, over the last few years, with these regions being impacted by currency devaluations and political instability, public markets have crashed closing the IPO window indefinitely. These factors, when combined with an increasing level of competition as more private equity investors expand globally in search of lower valuations, have caused the investment model to mature into that more like North American and Western Europe. Accordingly, private equity investors are demanding control investments in these regions whereby they can effectuate positive changes to their investments again largely through the use of operational performance improvement initiatives.
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