A.T. Kearney predicts more mega deals ahead.

Consumer and retail mergers and acquisitions activity in 2016 suggests that the megadeal is back, and projections from A.T. Kearney indicate that 2017 could see an uptick in dealmaking, this time accompanied by a rebound in valuations.

According to the global strategy and management consulting firm’s report, “Off to New Peaks in Uncertain Times,” there were 58 megadeals valued at more than $1 billion in 2016. Outside of the megadeal, global M&A deal value involving consumer and retail firms passed the $450 billion mark for the first time since 2008, a 30 percent gain over 2015.

The study surveyed C-level executives at strategic and financial firms who would be buyers, as well as their counterparts at firms that might be sellers. Of those who participated, 67 percent said they anticipate an increase in M&A activity.

Consumer goods and food firms led the overall increase in M&A, with a 46 percent jump. Europe was the most active region, with almost half the total deal value. Valuations cooled, however, while financial buyers stayed mostly on the sidelines. The latter was due in part to low oil prices holding back some sovereign wealth funds, while rising interest rates in early 2016 drove up the cost of high-yield debt, a source of funding for acquisitions relied upon by many private equity firms. And strategic buyers with strong balance sheets and better synergies with their target companies tended to beat out the financial buyers last year.

But those dynamics are likely to change as 2017 progresses. A.T. Kearney expects more growth in the consumer and retail M&A market this year. It also expects deal multiples to rise on both “growing global optimism and a strong U.S. dollar.” Further, by early March, high-yield rates had dropped to historic lows and the spread between those rates and Treasury bond yields had narrowed. Lower rates drive down acquisition costs for private equity firms.

Financial buyers who remained sidelined throughout the last year piled up capital, and their “dry power” climbed to about $1.5 trillion last year and now needs to be put to use.

According to Bahige El-Rayes, a principal in the consumer and retail practice at A.T. Kearney and co-author of the report, consolidation is another key theme globally that will help drive M&A activity. Examples of the megadeal and mega-megadeal are the $48.7 billion Essilor and Luxottica and the $9.41 billion Walgreens and Rite Aid transactions. More recently, Kate Spade & Co. earlier this month agreed to be acquired by Coach Inc. for $2.4 billion.

“Consumers are not spending, so they will do deals to grow. Organic growth in this environment is very tough….It is cheaper and safer to go and buy someone else,” he explained.

El-Rayes added that consumers have shifted their mind-set, whether for apparel or beauty, and they are seeking brands that are different, or offer a unique shopping experience. He noted that companies that do well are those that offer accessibility and a brand story, but there are “few players that can do both well.”

And while smaller firms tend to do both better than their larger counterpart, they often don’t have an adequate infrastructure that allows them to scale production. “That makes these firms the perfect acquisition target. They have a brand that tells a story that connects with certain customers, while the buyer can provide access [to an infrastructure] and scale them. This is how you can get growth [for both businesses],” he said.

As for the rise in valuations, El-Rayes didn’t think the 21 percent decline from 2015 levels would be repeated this year. “Going forward, we see deal multiples springing back as a result of mounting global optimism and the strong U.S. dollar.” Also boosting multiples will be more buyers chasing fewer companies. According to El-Rayes, there are “not enough good companies out there,” and that means those really good firms that go to market will be in a position of strength when negotiating deal terms and price.

While the survey’s respondents said they expect increased pressure to grow across global markets, political uncertainty could make cross-border transactions more complex and lead to firms favoring domestic and repatriation transactions.

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