Money For Nothing Triggers Deals - Analyst Blog
11 März 2013 - 4:00PM
Zacks
A spate of recent mega mergers and
acquisitions (M&A) appear to be spurred at least partly by the
availability of cheap corporate credit. Deals are also driven by
the estimated $1 trillion in cash holdings of large companies. Keep
in mind that private equity firms reportedly hold an estimated $190
billion or so of unexpended capital which they are eager to deploy.
Among negative industry trends, private equity players are finding
it tough to sell out and as a result, they are buying and selling
portfolio holdings among themselves (tertiary buyouts).
Warren Buffet’s Berkshire Hathaway Inc. (BRK.A)
together with Brazilian private equity outfit 3G Capital is on its
way to taking over all 56 varieties of iconic H. J. Heinz
Company (HNZ) in a $23 billion deal. In a $24 billion
transaction, the founder of Dell Inc. (DELL) is
de-listing the company with help from private equity firm Silver
Lake partners and Microsoft Corporation (MSFT),
who will be minority partners.
Then, Comcast Corporation (CMCSA) bid almost $17
billion for the 49% remainder of NBC Universal still owned by
General Electric Company (GE). The all-stock
merger of AMR Corporation
(AAMRQ)and US Airways Group,
Inc. (LCC) will create
the largest airline in the world with a market cap of $11 billion.
Anheuser-Busch InBev SA/NV (BUD) re-submitted a
$20 billion offer for the acquisition of Mexican brewer Grupo
Modelo, of Corona fame. Finally, there is John Malone’s
Liberty Global Inc. (LBTYA)’s
takeover of British cable company Virgin Media for about $15
billion in a cash-cum-stock deal.
Due to contributions from Michael Dell and the company’s
substantial cash holdings, Dell will not be as heavily leveraged,
post buy-out, as assumed earlier. A consortium of banks, comprising
Bank of America Corporation (BAC) and RBC Capital
among others, revealed a credit program of about $14 to $15
billion.
Fitch Ratings cut Heinz’s credit rating to junk status as
Wells Fargo & Company (WFC) and
JPMorgan Chase & Co. (JPM) unveiled a $14.1
billion borrowing program for the company. Heinz and Dell, along
with other marquee deals, will increase the supply of high yield
bonds (a k a junk bond) in the market.
Companies with investment grade credit quality are also
increasingly turning to the corporate bond market for financing.
For instance, Intel Corporation (INTC) and
Abbott Laboratories (ABT) recently engaged in huge
multi-billion dollar borrowings at super-low yields to fund share
buyback or other requirements. More companies appear to be skewing
their capital structures in favor of debt while maintaining
favorable debt service coverage
ratios.
Among supply side issues, high yield bond issuance hit a record
last year and the robustness continues. Fund raising companies
frequently used the proceeds to refinance higher interest-bearing
loans. Then high yield bonds are increasingly being issued by
private equity firms to fund their acquisitions. In any case, there
is no doubt that the boom in high yield bonds has ensured access to
financial markets for even those companies with the lowest credit
quality.
On the demand side, corporate bonds are not just attractive to
retail investors. They are also favored by institutional investors,
such as insurance companies. In 2012, very low interest rates
continued to force yield-starved investors to shift from the safety
of Treasuries to more risky assets, such as high yield bonds. The
interest in high yield bond funds was so great that some mutual
funds, such as T. Rowe Price, even refused to take new investors.
Fueled by robust demand, high yield bond yields breached crucial
levels and roosted at sub-6% levels late last year. The decline in
high yield bond yields noticeably reduced the charges for leveraged
buyouts.
Subsequently, the tide changed course in early 2013 such that funds
like iShares iBoxx $ High Yield Corporate Bd (HYG)
faced redemption pressure for three or four weeks in a row.
Consequently, high yield bond fund yields were temporarily back
above the 6% mark. Despite the recent minor correction in high
yield bond prices, bonds are still ‘priced to perfection’ with a
yield to maturity that compares unfavorably with the earnings yield
(inverse P/E) of the benchmark S&P 500.
Currently then, high yield bond yields translate into 400 to 500
basis points spread over comparable U.S. Treasury bonds. The risk
premium today is on the lower side but not at its nadir. Market
mavens still believe that there may be room for shrinkage of the
premium.
This bullish outlook is supported by the low default rate for high
yield bonds at about 3.2% recently versus the long-term track
record of 4.5% or so. The outlook for the default rate is favorable
in the medium term although there is some divergence of opinion
between Standard & Poor’s Ratings Services – a unit of
The McGraw-Hill Companies, Inc. (MHP) and
Moody's Corp. (MCO) about its future course. There
are some signs of credit degradation with the proportion of credit
hikes to credit downgrades turning negative recently.
As for deal-making capability, JPMorgan Chase & Co. is the
numero uno among M&A arrangers and The Goldman Sachs
Group, Inc. (GS) as another leader. Investment bankers
have seen their fortunes soar in line with the growing appetite for
high yield bonds, which provides a point of cheer in a season of
layoffs on Wall Street. JPMorgan Chase & Co. and
Deutsche Bank AG (DB) are just two investment
banking boutiques whose high yield arms have done well.
BARNES GRP (B): Free Stock Analysis Report
BERKSHIRE HTH-A (BRK.A): Free Stock Analysis Report
COMCAST CORP A (CMCSA): Free Stock Analysis Report
DEUTSCHE BK AG (DB): Free Stock Analysis Report
DELL INC (DELL): Free Stock Analysis Report
GOLDMAN SACHS (GS): Free Stock Analysis Report
HEINZ (HJ) CO (HNZ): Free Stock Analysis Report
INTEL CORP (INTC): Free Stock Analysis Report
JPMORGAN CHASE (JPM): Free Stock Analysis Report
LIBERTY GLBL-A (LBTYA): Free Stock Analysis Report
US AIRWAYS GRP (LCC): Free Stock Analysis Report
MOODYS CORP (MCO): Free Stock Analysis Report
MCGRAW-HILL COS (MHP): Free Stock Analysis Report
MICROSOFT CORP (MSFT): Free Stock Analysis Report
WELLS FARGO-NEW (WFC): Free Stock Analysis Report
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