Why the Fourth Merger Wave Ended
The fourth merger wave ended in 1989 as the long economic expansion of the 1980s came to an end and the economy went into a brief and relatively mild recession in 1990. The economic slowdown led to the unraveling of a number of the high-profile leveraged deals of the fourth wave. In addition to the overall slowdown in the economy, other factors that led to the end of the wave included the collapse of the junk bond market, which had provided the financing for many of the LBOs of the period.
Fifth Wave
Starting in 1992, the number of M&As once again began to increase (Figure 2.6). Large deals, some similar in size to those that occurred in the fourth merger wave, began to occur once again. At this time, the track record of many of the highly leveraged deals of the fourth wave, some of which were still in Chapter 11 bankruptcy, was quite apparent. Managers vowed they would not duplicate the mistakes of the 1980s and focused more on strategic deals that did not unduly rely on leverage. Short-term, purely financial plays were also avoided. This all seemed to go according to plan – at least for a while.
Figure 2.6 U.S. M&A 1980–2014. Source: Thomson Securities Financial Data, March 6, 2015.
During the 1990s, the U.S. economy entered into its longest postwar expansion, and companies reacted to the increased aggregate demand by pursuing M&As, which are a faster way to grow than internal growth. At the same time, the stock market values of companies took off and various market indexes reached new highs (Figure 2.7).
Figure 2.7 S&P Index in US and Europe. Source: Bloomberg, www.econstats.com/eqty/eqea_mi_1.htm (Panel a); http://us.spindices.com/indices/equity/sp-europe-350 (Panel b).
While the expanding economy required that there be some adjustment in expected profitability, the high levels of the market became difficult to explain. We will revisit this issue a little later in this chapter.
Although the fifth merger wave featured many large megamergers, there were fewer hostile high-profile deals and more strategic mergers occurred. As the economy recovered from the 1990–1991 recession, companies began to seek to expand and mergers once again were seen as a quick and efficient manner in which to do that. Unlike the deals of the 1980s, however, the initial transactions of the 1990s emphasized strategy more than quick financial gains. These deals were not the debt-financed bust-up transactions of the fourth merger wave. Rather, they were financed through the increased use of equity, which resulted in less heavily leveraged combinations. Because the deals of the early 1990s did not rely on as much debt, there was not as much pressure to quickly sell off assets to pay down the debt and reduce the pressure of debt service. The deals that occurred were, at least initially, motivated by a specific strategy of the acquirer that could more readily be achieved by acquisitions and mergers than through internal expansion.
Certain industries accounted for a disproportionate share of the total dollar volume of M&As in the United States during the fifth merger wave. In particular, banking and finance and communications and broadcasting accounted for 26.5 % of all U.S. deals over the period 1993–2004. However, the percentage accounted for in these industries rose from a low of 7.5 % in 1994 to a high of 41.9 % of deals in 1999. This was caused by a combination of factors, including the continued impact of deregulation and consolidation of the banking industry, as well as the dramatic changes that were ongoing in telecom and Internet-related businesses. The fifth wave would have been different had it not been for the “inflating” yet short-lived impact of these sectors.
Each wave brought with it certain uniquely different transactions, and the fifth wave was no exception. In the mid-1990s, the market became enthralled with consolidating deals – what were called roll-ups. Here fragmented industries were consolidated through larger-scale acquisitions of companies that were called consolidators. Certain investment banks specialized in roll-ups; they were able to get financing and were issuing stock in these consolidated companies. Table 2.4 lists some of the more prominent consolidated companies. Roll-ups were concentrated in particular businesses, such as funeral printing, office products, and floral products.
Table 2.4 Large Roll-Ups
The strategy behind roll-ups was to combine smaller companies into a national business and enjoy economies of scale while gaining the benefits of being able to market to national as opposed to regional clients. There may have been some theoretical benefits to these combinations, but the track record of many of these deals was abysmal. As with fads from prior M&A periods of frenzy, dealmakers, in this case firms that specialized in doing roll-ups, excelled for a period of time at convincing the market that there were realistic benefits to be derived from these deals. While some, such as Coach USA, have survived, many others were successful only in generating fees for the dealmakers. Many of the consolidated entities went bankrupt, while others lost value and were sold to other companies. Roll-ups were a fad that became popular while the market of the 1990s was caught up in a wave of irrational exuberance and was looking for investment opportunities.
The fifth merger wave was truly an international merger wave. As Figure 2.6 shows, the dollar value and number of deals in the United States increased dramatically starting in 1996. In Europe, the fifth wave really took hold starting in 1998. By 1999, the value of deals in Europe was almost as large as that of deals in the United States. Within Europe, Great Britain accounted for the largest number of deals, followed by Germany and France. In Asia, merger value and volume also increased markedly starting in 1998. The volume of deals was significant throughout Asia, including not only Japan but all the major nations in Asia. Many of the Asian nations only recently have begun to restructure their tightly controlled economies, and this restructuring has given rise to many sell-offs and acquisitions.
As discussed in Chapter 1, while the size of the M&A market in Central and South America is much smaller than Asia, which is in turn smaller than Europe and the United States, a significant volume of deals also took place in this region. The forces of economic growth and the pursuit of globalization affected all economies as the companies sought to service global markets. Expansion efforts that take place in one part of the globe set in motion a process that, if unrestrained by artificial regulation, has ripple effects throughout the world. This was the case in the fifth merger wave.
When the fifth merger wave began to take hold, corporate managers steadfastly stated that they would not make the same mistakes that were made in the fourth merger wave. Many maintained they would not engage in short-term, financially oriented deals, but would focus only on long-term, strategic deals. In fact, there is evidence that managers pursued deals that had modest positive effects for shareholders. In a large sample of 12,023 transactions with values greater than $1 million over the period 1980–2001, Moeller, Schlingemann, and Stulz found that the deals done at the beginning of the fifth wave enhanced shareholder value.45 However, between 1998 and 2001, acquiring firm shareholders lost a shocking $240 billion! (See