Pessimists be damned, it is time to buy
First published in the Financial Times on 4th June, 2013.
After a long spell of inactivity, negativity and contraction, there are stirrings of recovery
Now is the time for companies to get out their cheque books to buy and invest.
First, it really does appear as if economic prospects are improving in a number of countries – the US, Japan and the UK – while most of Asia, Australia, Canada and South America are doing fine. The eurozone nations, save Germany, are weak – but that is almost certainly reflected in valuations.
Meanwhile, returns on cash deposits are pathetic. Bonds offer equally feeble income prospects and no capital upside. Hence ownership of companies is the best use for cash. They can deliver real growth, thanks to expanding markets and retained earnings.
Moreover, for credible industrial buyers, banks are now very much open for business. Banks have been rebuilding their balance sheets and know they have to lend to stay in business.
Borrowing costs are higher than they were but still low by historic standards. And with quoted shares on many exchanges close to all-time highs, there are probably opportunities for listed companies to issue stock to raise cash – or in exchange for assets. Also, any sensible deal is likely to be earnings- enhancing given the very low cost of capital for solvent buyers.
In both Britain and the US, corporate cash mountains have been accumulating for some time. In this climate it is dead money. In the US, companies hold at least $1.5tn cash in gross terms, while in the UK the equivalent figure is £750bn.
Most of the private sector has been risk-averse since the credit crisis started in 2008. But after five years of caution it should really start to embrace a more adventurous spirit. With rising share prices, there are investor expectations of earnings growth, and that can only be achieved through investment.
When managers have been hunkered down cutting costs and hoarding liquidity for an extended period, it is easy for a negative mindset to become entrenched.
We can all find lots of reasons why an acquisition or new project seems like a dangerous idea, and should consequently be dropped. But generally companies are either growing or retreating – and one explanation for decline is because their leadership becomes rigidly unadventurous and pessimistic. Now is the time to be bold.
Companies that can be bought in 2013 are unlikely to appear cheap. Prices have firmed up in line with market indices. Today there are not many bargains – but then, there rarely are on day one.
However, if consumer confidence continues to recover, then profits could surprise on the upside – and in a few years, purchases that are carried out now should appear well-timed. Any profit upgrades will be amplified with benefits from synergy.
Of course, there are still plenty of broken businesses and overleveraged situations. These are less attractive prospects for companies, where executives tend to get fired for deals that disappoint – but not when they overpay for quality. Hence the distressed and difficult opportunities will probably remain the stamping ground for serial entrepreneurs and certain private equity firms that can handle turnrounds.
Merger and acquisition activity has been subdued for a long time. Many probably believe these low volumes are the new normal. But there are thousands of transactions that have been deferred over the past five years as disposals and retirements were put off until profits and prices revived. Those elements are steadily being restored, so I predict an M&A mini-boom in the next couple of years. Bosses will not want to be left behind. Capital expenditure and acquisitions will rise.
What is my particular justification for this bullish view? I am busier with prospective deals than I have been for some years. It seems that both buyers and sellers are feeling the moment has come to act. Of course, many negotiations will collapse. But quite a few will surely proceed.
The general rise in confidence tells me that better times lie ahead for business. And the reports I receive from various companies confirm the statistics and surveys that are forecasting a distinct pick-up in trading this year and next.
This momentum has a reinforcing quality: more capital deployed means more jobs and more spending and higher revenue and greater profits. Long may the virtuous circle continue!