Everywhere you look, prognosticators are doling out advice on what to do in a recession.
How will all of this affect the M&A and financing landscape?
With the US economy definitely hitting some bumps in 2008, expect a lot of change. While the American Presidential Elections are sure to bring a lot of rhetoric on what needs to be done, expect corporations to set the example by taking charge.
Companies to Lead M&A
American companies are flush with cash. For years, they competed with private equity companies that were financed to the tilt via cheap financing. While interest rates began to rise in early 2007, the ensuing credit crunch forced the Federal Reserve to reverse that trend to inject liquidity in the marketplace and as such, private equity financing remained relatively cheap.
But while 2007 was marked by some massive P&E deals leading the M&A landscape, expect 2008 M&A to be driven by companies, not financiers, because strategic buyers will have more of an incentive to make the deal happen because their organic growth might slow down.
We’re definitely not alone in this assessment: AdMedia Partners recent report concluded:
The most striking findings are widespread pessimism among media executives about the prospects for the U.S. economy and the belief that fallout from the subprime credit crash will change the dynamic of the media M&A market, which in recent years has been dominated by financial buyers, to once again be the domain of strategic players. However, these strategic players are expected to more than fill the gap.
That is one subtle change. Another change?
IT to See Material Spike in M&A; Digital Media to Continue Momentum
As the deals by Oracle for BEA Systems and Sun for MySQL have shown early on, expect IT to take over the lead from digital media, who clearly paved the way to riches in 2007. But, this does not mean that you won’t see digital media continuing to close deals at a breakneck pace, it just means that IT M&A will seriously spike in 2008.
But for media and IT M&A will remain healthy. The reason for this is simple, according to this article in Business Week:
The economic backdrop makes it easy to pull the trigger on such deals. There’s little doubt that corporate tech spending will slow in 2008. Back in November, Cisco CEO John Chambers said he expects tech spending to be “lumpy.” That means big tech vendors need to find other ways to boost revenue. “If the growth isn’t organic, companies will look to buy their growth,” says Senior Technology Analyst Andy Miedler, with investment firm Edward Jones.
Search for Revenues
You can replace corporate spending with advertising, to some extent. While online advertising will continue to grow and remain a shining light in marketing budgets, to paraphrase CNET CEO Neil Ashe, no company is immune to the economy and above it. CEO and Chief Revenue Officers at companies fully understand this, so instead of hoping merely for continued organic growth, they will look at closing deals to boost assets, and mainly conduct a land grab while VCs start to sit on the sidelines after 2-3 years of heady dealmaking.
Avoiding Costs
But the revenues are half of the equation. Companies won’t want to spend much to grow, because companies are short-sighted. They will rather use cash on their balance sheets to make acquisitions rather than take a hit on their income statement with more costs. For this reason, expect a lot of M&A, it is smart financial management.
VCs will Have a Transitional Year in 2008
When the economy is booming, VCs are known to discount company projections a bit. If the economy is not in tip-top shape, they will drastically reduce a company’s projections, which means that they will pass on more companies than they would otherwise. Booming market or not, VCs aim for 5-10x return on projects. Naturally, when the market is going through a transition, even if it is short-lived, then VCs become more cynical of entrepreneurs’ projections. VCs after all are not idealistic and ambitious entrepreneur types, they are usually more cynical, methodical and analytical.
Mind you, VCs have invested considerably in the past few years, but apart from a few home run exits, most of their hypothesis have not been proven. They have invested for example heavily in file sharing social networks - and apart from YouTube, most of those remain on the market. I suspect many of these companies will find themselves at a crossroads, and a majority will fall by the wayside.
VCs will look at shedding underperforming assets in one of two ways:
- selling to recoup all or some of their investment or in other cases,
- shut down the company, especially if there is way too much competition and the company is losing too much money each month.
It’s one thing to remain patient on a company with prospects and what not, but to continue to lose money on a company with too much competition will seem less attractive than usual.
In this context, expect more deals to go the way of an M&A because the definition of a promising company is considerably different to a company that manages assets and a company that manages a portfolio of investments.
The White Knights of Digital Media?
There is one slight nuance that remains a wild-card. A lot of media executives have lined up, raised oodles of cash and will compete in this ecosystem. Ross Levinsohn and Jon Miller have over $1.5B to invest. CAA also has a fund to invest in digital media. Former Yahoo! CEO Terry Semel was rumored to toss his hat into the ring last week with the relaunch of Windsor Investments. Will these companies sit on the sidelines? I doubt it. Just this morning it was announced that Miller and Levinsohn invested in Broadband Enterprises $10M funding. They are also involved in Jana Partners’ “less-than-friendly” takeover attempt of CNET.
So yes, the use of the word White Knight remains somewhat questionable.
Conclusion: More of the Same
While I agree with CNET’s Ashe that no one is immune to a recession, I tend to agree more with whomever that said there is always a bull market somewhere.
My gut says that with so much shifting online, digital media will see even more momentum in 2008. But don’t take it from me, take it from the master of the deal himself Rupert Murdoch, who in the early 2000s woke up to the Web’s potential when he realized how much his online assets would yield despite very little investment. It takes a downturn - when the proverbial tide goes down - for people to separate the wheat from the chaff.
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