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Top M&A Targets in 2017
Tuesday, March 7, 2017

Top M&A Targets in 2017

Mergers and acquisitions have hit breakneck speed and the outlook remains strong for investors.

By Lou Carlozo | Contributor Feb. 28, 2017, at 9:32 a.m.

One way to think of mergers and acquisitions invokes traditional metrics and flow-chart precision: Two companies meet, discuss, crunch the numbers and hopefully emerge as a stronger unit the moment they join forces, or one buys the other.

But in the early weeks of 2017, there's another paradigm in play – one where sugared-up investors reach for the proverbial candy bowl where M&As might as well be sweet as M&Ms.

"The U.S. economy is ripe for M&A in 2017," says Dan Shea, managing director and head of private equity coverage with BDO Capital Advisors. "The three pillars of capital formation – private equity funds, corporations and lending institutions – are all flush with cash and eager to transact."

As for whether those pillars stand ready to raise the roof on an investment bonanza, it remains to be seen whether suitors and targets can beat the clock.

Steven M. Dresner, president of Dresner Partners Investment Banking and vice chairman of IMAP, concurs that "2017 will be a strong year for M&A" – but due to economic pressure as much as anything else.

"Rates are still low and there is threat that they will rise," Dresner says. "This puts a sense of urgency on buyers and sellers of companies alike, and there will be a push to get deals done."

Looking for some strong candidates to get snatched up? "Groupon (ticker: GRPN) is clearly one," he says. "The company continues to grow, improve and yet disappoint."

Others Dresner cites include Sirius XM Holdings (SIRI), a money loser but with dominant market share and awash in rumors that billionaire Warren Buffett is sniffing around. And: "All of the food packaging companies are up for grabs, including Kellogg (K), General Mills (GIS) and Mondolez (MDLZ)," the last of which ended a failed play in August for the private confectioner Hershey.

"I think the key to successful M&A investing is to initially identify those sectors where further consolidation is anticipated and earnings are projected to grow," says John Vanderhider, partner in the Corporate Finance Group at Opportune. "Identify industry leaders and/or companies that have a unique competitive advantage, be it a product or service that truly distinguishes their company from the peer group."

And if investors need that kind of granular focus, it turns out companies on the M&A prowl will as well.

"We expect to see an active deal market in 2017, however, those deals will likely be more targeted in nature," says Bill Casey, EY Americas vice chairman of Transaction Advisory Services. He also cites the most recent EY Capital Confidence Barometer, which shows more than 75 percent of U.S. executives plan to complete a deal in 2017 – with nearly all respondents looking at deals less than $1 billion.

Yet how much will actually get done remains another matter.

"We think the general outlook for M&A in the middle market is uncertain," says David Hellier, president of ACG New York and partner at Betram Capital. "While there are positive signs about lessened business regulations that are favorable to business, the uncertainty about policy and tax reform – for example, will interest deductibility remain – adds uncertainty to the market, which is never a good thing for businesses."

For investors keeping an eye out for action, Hellier points to a few potentially hot sectors. But as 2017 kicks into gear, nothing looks like a sure bet just yet.

"Manufacturing is certainly getting attention, however there is some market concern for businesses headquartered in the U.S. but manufacture overseas, or have a significant business exporting, due to the potential border tax," Hellier says. Look to oil and gas to benefit from a favorable political climate, "but health care, which has been a very robust M&A sector for the middle market, has a lot of concern around it."

Statistics suggest there's wisdom in those forecasts. A recent study by BDO found 23 percent of PE fund managers say the manufacturing sector poses the best opportunity for new investment in 2017, while 44 percent say valuations in natural resources will increase. Yet 70 percent believe health care and biotech valuations will rise, even for all the caution surrounding that sector.

Another potentially fruitful place to consider is the high-tech world, especially as it pertains to engaging companies outside that sector, experts say.

"More recently, we have seen growing activity in digital deals in non-digital industries," says J. Neely, principal with PwC's Strategy& and a specialist in mergers and restructurings. The appeal of the deal often hinges on what Neely calls a "capability enhancement play." That could mean, for example, that Company A's digital technology acts as a "plug-and-play" that makes the non-digital Company B run with much greater efficiency.

"Being successful requires a very clear view of how multiple plays might come together into an advantaged play," Neely adds. Yet there's a distinct human side that can't be overlooked, involving "a lot of attention on knitting the companies together while preserving key talent."

In the final analysis, M&A output this year might turn out somewhere between magnificent and moderate: two words you can't spell without "M" and "A."

"M&A activity in 2017 may not exceed 2015 or even 2016 levels," says Thomas S. Vaughn, member at the national law firm Dykema Gossett, who focuses on the M&A space. "But it will very likely not be far off those levels and it certainly won't be a weak market unless there's a dramatic shift in fundamentals."