The megadeal might be back.
This story first appeared in the March 12, 2013 issue of WWD. Subscribe Today.
The steadily tepid economy has aligned with low interest rates and a strong stock market to raise the prospects that there could be big, multibillion-dollar deals in the fashion world this year. The caveat is whether big-time buyers feel comfortable enough to bet on a consumer who’s still feeling her way forward cautiously.
Wall Street at least is ready to go and egging companies on, even if buyers are still in wait-and-see mode.
Rumors — not particularly credible ones — have bubbled to the surface lately that large, premier companies might change hands. Coach Inc., Tiffany & Co., Burberry and the troubled J.C. Penney Co. Inc. have all been the subject of whispers among investors in recent weeks.
A deal for any of those companies would easily run over $5 billion.
That’s a boatload of money, but there’s plenty of cash sitting on corporate balance sheets and in private equity war chests. And extremely low interest rates, which are intended to prop up the economy, have also prompted banks and junk bond investors to lend money cheaply and with few strings attached.
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“There’s a lot of liquidity that’s come into the market,” said Joseph Stein, managing director at investment bank Peter J. Solomon Co. “Banks are lending again. Banks are becoming more aggressive, and the institutional investors who are participating in these markets are hungry for transactions, they’re hungry for yield, so there’s been a lot of liquidity in the market.”
Bond investors essentially lend money to companies for a set number of years in return for regular payments, or yield. Riskier bets pay higher returns to bondholders. And with low interest rates limiting the profitability of government bonds, investors are turning to corporate debt.
“You have a bright light out there,” said Arash Farin, vice president of the Sage Group. “Buyers know they can get financing, which drives acquisition prices and drives multiples.”
Buyers have plenty of their own money to put to work as well. “Private equity firms also have a trillion dollars to invest,” Farin said.
As rosy as the picture might appear, the easy availability of debt might raise red flags given the fallout from the last credit binge. The economy is still recovering from that overindulgence, even as Wall Street rockets to record highs.
“It certainly feels like pre-2008,” said Joseph Pellegrini, managing director at Robert W. Baird & Co.
But investors seem to have learned their lesson from 2008. Pellegrini said the market isn’t so overheated that investors have lost touch with business realities.
“We haven’t seen people do really stupid stuff,” he said. “People are paying attention to fundamentals, and companies that have solid stores, solid franchises…credit’s going to be available to them.”
And investors are focusing on companies that still have plenty of expansion opportunities.
“People are looking intelligently for growth,” Pellegrini said. “There’s a lot of cash chasing fewer growth stories. So when a really great growth story like Michael Kors comes up, that’s going to be well received [by the market].”
Investors have had cash to spend and debt has been relatively cheap for some time, but companies didn’t want to feel they were selling at a fire sale price. That’s changed as the stock market has strengthened, pushing the Dow Jones Industrial Average to another new all-time high Monday of 14,448.06.
Boards that were hesitant to sell to a private equity firm could more easily justify a buyout now, said Michael Dart, senior partner of consultancy Kurt Salmon. And although the recovery’s been choppy, it’s showing some signs of momentum.
“You put all of that together and you start to see the right constellation of things…that would suggest a large-scale transaction really is in the realm of possibility again,” Dart said.
When or if a big company will come into play is anybody’s guess — although someone making an educated guess would note that firms that are retooling have an extra incentive to go private.
For instance, observers have pointed to Penney’s as a retailer that would be better able to complete its transformation away from the glare of the spotlight. Chief executive officer Ron Johnson’s plan to reinvent the department store as a collection of specialty concepts has caused sales to plummet and spooked investors, driving the company’s enterprise value down to $5.37 billion.
At the other end of the profit spectrum, Coach is shifting its strategy toward more of a lifestyle offering, a change that could be easier with less scrutiny of margins, sales and specific growth projections — all of which public investors insist on. However, Coach still has a strong footing and would be a huge deal for the fashion space, with an enterprise value of $12.9 billion.
The market is trending toward bigger deals, but not on that magnitude.
So far this year there have been 28 deals cut for apparel and shoe retailers, down from 41 deals a year ago, according to Dealogic. The total value of the transactions unveiled this year jumped 164 percent to $2.17 billion. Last year there were 187 deals unveiled in the space with a total value of $15.82 billion.
Experts said the same dynamics that fuel the possibility of bigger takeovers are also supporting smaller transactions.
There was some expectation that deal flow would slow after new tax laws kicked in for 2013, said Douglas Hand, founding member of Hand Baldachin & Amburgey, a law firm with many designer clients.
“As we flipped into this year, it has not slowed down,” Hand said. “That’s been a little surprising, but positive. If the valuation is right, it’s still a time to potentially take on an investor.”
In general, the deal pipeline is starting to fill up, said David Hanfland, a partner in the mergers and acquisition practice of A.T. Kearney.
“It is a recognition that there’s maybe more stability and some more visibility,” Hanfland said. “I don’t see lots of company’s saying we see a huge upside, but I also don’t see them saying the sky is falling.”
In some other context, that might be seen as praise so faint that it would be considering damning. But in the deal and the business world, it is the lack of certainty that mucks up the works more than any particular weakness or strength. Investors can account for a tough market or a slow recovery, but they won’t place any bets if they don’t have a good feel for the outlook.
For that reason, debt isn’t the be-all and end-all. The waters remain somewhat murky and many investors still are waiting to see how quickly the economy will turn around before placing big bets.
“It’s tough out there right now so buyers are taking breathers, waiting to see where things end up,” said John Howard, ceo of Irving Place Capital, which last year invested in Rag & Bone.