The tide is now ebbing, causing suitors to put potential takeover deals on ice, while shareholders become critical of bankers’ lavish salaries.
You might have noticed that company chairmen have a spring in their step as the turmoil in financial markets has reduced the odds they will find themselves having to fend off an aggressive takeover bid from some cashed-up private equity firm or audacious billionaire.
Indeed, in the past few weeks, there has been a marked reduction in the appetite for risky takeovers, with potential suitors shying away from deals they had previously found alluring.
Fly away: Elon Musk, the world’s richest man, is trying to find a way out of his $US44 billion bid for social media platform Twitter. David Rowe
There are two reasons why corporate predators are losing their appetite.
First, they’re worried that the steep slide in global sharemarkets – the S&P 500 index has fallen 15 per cent since the beginning of the year – could continue.
This presents a conundrum for corporate predators, because if they lob a bid that involves paying even a modest premium to the company’s current share price, they could end up significantly overpaying.
But the second, and much more important reason, is that bond market investors are no longer prepared to buy vast quantities of the bonds issued by risky, debt-laden borrowers.
And this has changed the calculus of highly leveraged deals, which depend on a plentiful supply of cheap funding.
The prices of high-yield bonds – dubbed “junk bonds” – have tumbled by about 10 per cent this year as investors have become increasingly concerned that the US central bank’s efforts to dampen inflation will push the American economy into recession.
As a result, junk bond yields have now climbed to about 7.5 per cent, a sharp increase from 4.3 per cent at the start of January. (Yields rise as bond prices fall.)
What’s more, the difference between yields on US government bonds and high-yield bonds has blown out, a clear sign that investors are becoming much more risk-averse.
At the beginning of the year, investors were demanding an extra 2.8 percentage points in yield to own junk bonds, rather than ultra-safe US government bonds. This has now jumped to 4.6 percentage points.
The steep rise in yields has punished riskier companies that are carrying hefty levels of debt, making it more difficult – and expensive – for them to raise new debt.
But it’s also meant that investment bankers – who until a few weeks ago were elbowing each other out of the way for the privilege of arranging and underwriting risky takeover deals – have now become a lot warier.
They know that the unfavourable conditions in the junk bond market will make it much trickier to offload any risky debt they agree to underwrite as part of a big takeover deal.
Still, while investment bankers might be disconsolate, many companies will be relieved that they can get on with the job of running their businesses, without having to deal with the distraction of a potential takeover.
Brambles directors no doubt heaved a sigh of relief when private equity giant CVC dropped its plans for a potential $20 billion bid for the transport and logistics group.
CVC had a change of heart after several major investors in a CVC buyout fund became more nervous in response to the changes in financial markets. This limited the indicative price that CVC was prepared to offer to pay to proceed to due diligence on the underperforming group.
In a statement filed with the ASX on Tuesday, Brambles said that CVC had indicated “it will not be putting forward a proposal nor seeking to conduct due diligence at this time due to the current external market volatility”.
Of course, a far more spectacular example of a suitor getting cold feet is the decision by Elon Musk, the world’s richest man, to hit the pause button on his $US44 billion ($62 billion) purchase of social media company Twitter.
Last Friday, the billionaire founder of Tesla, tweeted that the deal to buy Twitter was “temporarily on hold pending details supporting calculation that spam/fake accounts do indeed represent less than 5 per cent of users”.
Twitter has long said in regulatory filings that fewer than 5 per cent of its accounts are fake.
But Musk has suggested that the figure could be above 20 per cent, although he has not provided any detail to back up his claim. On Tuesday, he tweeted that the deal “cannot move forward” until Twitter provides more clarity about the volume of spam and fake accounts on its platform.
Not surprisingly, Musk’s stated reason for putting the Twitter deal on ice has met with a fair degree of scepticism.
After all, the problem of spam and fake accounts – generated by computer programs, or “bots” – has plagued social media platforms for years.
And if Musk was seriously worried about spam accounts, it’s curious that he decided it wasn’t necessary to conduct due diligence – the detailed examination of a target’s business operations, customers and growth potential – before signing a takeover agreement for Twitter.
As a result, some analysts suspect this could be part of Musk’s strategy to renegotiate for a new, lower price for the social media company, or else to abandon the deal altogether.
After all, Twitter’s shares are now trading about $US38, well below the $US54.20 that Musk agreed to pay.
Still, it’s not going to be easy for Musk to renegotiate the terms of the deal. Not only could he face a $US1 billion break-up fee, the agreement with Twitter also contains a “specific performance clause”, which gives the company the right to force him to complete the deal so long as his debt financing package remains watertight.
And the changed financial conditions will be sorely testing the commitment of Musk’s financial bankers.
It’s likely that Musk’s bankers – who only a few weeks ago jumped at the chance to provide the $US25.5 billion in debt funding he needed for his Twitter bid – would be hugely relieved if he were to cut his takeover offer.
Musk’s loan facility is divided into two parts, with seven banks – Morgan Stanley, Bank of America, Barclays, MUFG, BNP Paribas, Mizuho and SocGen – providing a traditional loan of $US13 billion.
But 12 banks chipped in for a riskier, $US12.5 billion margin loan, which is secured against a parcel of Musk’s Tesla shares.
Since the takeover deal was announced late last month, the Tesla share price has slumped 23.7 per cent. Since early April, the share price of the electric carmaker has shed one-third of its value.
The problem for the bankers who provided this margin loan is that if Tesla’s share price were to fall sharply enough, they would face an invidious choice. They could either demand that Musk top up his collateral, or they could sell the Tesla shares they hold as security for their loan.
But in this scenario, it would be impossible for bankers to exercise their security, because they would be selling Tesla shares into a falling market, which would only exacerbate the plunge in the share price.
There is, of course, no better sign that financial markets are on the cusp of a new era than when ungrateful shareholders give the thumbs down to the lavish financial rewards bankers propose for themselves.
Especially when the banker concerned is widely acknowledged as the most powerful on Wall Street.
But that’s precisely what happened on Tuesday, when JPMorgan Chase shareholders opposed paying a $US50 million retention bonus to chief executive Jamie Dimon.
The boss of the US banking giant pocketed $US34.5 million for 2021, and the bank’s board topped this up with a $US50 million special bonus to persuade him to stay at the helm for at least five more years.
But disgruntled shareholders voiced their disapproval of the board’s largesse, with only 31 per cent voting in favour of the bank’s executive pay plans at the annual shareholder meeting (although the vote is non-binding).
What better sign that the era of cheap money is drawing to a close?
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