While family businesses globally may be enhancing their strategies to survive and prosper, some are coming to the end of their family line and choosing to sell when the prospect of an attractive offer is presented. In many regions, the global economic downturn has put paid to a worthwhile sale in the immediate term: family owners are sitting tight till values improve. But in Latin America it’s a different story.
A significant share of the Latin American market comprises family-run companies — often in need of capital, or better standards of corporate governance, or both.
Some family businesses, founded in the 1950s, are reaching the third or fourth generation facing falling birth rates and a weaker tradition of handing management down to children. Owners are thinking about cashing in.
And now, the time is ripe — family-run, small to medium-sized businesses in the region are set to become a significant target for takeovers.
M&A activity in global context
At present, Latin America is a relatively small global player in mergers & acquisitions (M&A), accounting for just 5% of total global activity in January-September 2009. In fact, M&A all but dried up in the region during the global economic downturn after what had been a significant increase in the number and value of deals during 2003-2008.
The Latin America region was not alone: while recession typically results in a slowing of deal activity, as companies push back deals in the hope that valuations will fall, the economic downturn had a particularly suffocating effect on M&A globally. The sharp reduction in available credit made it extremely difficult for companies to raise finance for new deals.
During the worst period of the downturn, in the first half of 2009, the value of announced worldwide M&A activity dropped by 40% year-on-year, to USD 941bn. The number of deals also fell, albeit less dramatically, from 20,342 in the first half of 2008 to 17,389 in 2009.
And Latin America in particular was badly affected: deals in Mexico and Central America came to a virtual standstill. Announced M&A in Brazil fell from USD 50bn in the first half of 2008 to USD 29bn a year later.
In addition to these challenging financing conditions, because the US dollar is the global currency for M&A deals, exchange rate volatility in Latin America complicated valuations — many target enterprises held US dollar-denominated debt.
Yet, as the global economy has begun to recover, deal activity in Latin America is on the increase. Compared with mega deals in the region driven by a wave of privatisations during the 1990s, and mainly led by European and American investors, the focus is now on smaller transactions. The trend has shifted increasingly to mid-market deals (USD 39.5m – 395m) among intra-regional players.
According to a Brazilian M&A advisor, the number of deals is returning to pre-crisis levels. Sentiment already appears to have shifted in the market, with most advisors in the region expecting an increase in activity — in terms of both volume and value — during 2010. A spate of deals appears to substantiate this assessment, including the announcement, in September 2009, from a French telecommunications company, Vivendi, that it was purchasing GVT, a Brazilian mobile phone firm, for USD 2.9bn. Indicators suggest that was the turning point in the region’s M&A market.
Reasons for M&A revival
The main reason for this shift is that credit markets have reopened and facilitated access to finance. Improvements in market conditions and risk appetite have been reflected in substantial amounts of primary bond issuance, and a narrowing of spreads on secondary markets, since global risk appetite returned from March 2009. The number of initial public offerings (IPOs) nose-dived in late 2008 and early- to mid-2009, but has recovered in recent months. Banco Santander Brasil’s USD 8bn deal, in October 2009, was the largest-ever IPO in Brazil.
Although these trends incorporate a recovery globally, several factors point to a pick-up in deals in Latin America in particular. Credit access is improving, but costs remain elevated, suggesting that a greater share of deals will be financed by cash or equity. This suggests a shift in the size of M&A deals, with small and medium-sized companies likely to become the main targets. They’re ripe for takeovers.
This M&A spur among family businesses may be heightened further by larger parent companies seeking to divest poorly performing assets to raise capital. Acquiring companies could view these factors as an opportunity to enter new markets — and focus their attention on the mid-market sector. Also, less mature industries in Latin America could become targets of more developed industries in neighbouring countries — witness how Chile’s successful retail industry has expanded across the region in recent years.
There is also a sense that stock market falls in late 2009 have provided significant opportunities, particularly for the acquisition of financially distressed firms that are structurally sound but face cashflow problems from difficulties in rolling over debt repayments. Although the strength of the Brazilian stock market means this is likely to be less of a factor driving M&A in Brazil, it may encourage M&A in countries where stock exchanges have taken a harder hit.
A survey on corporate response to the downturn by the international Boston Consulting Group identified strategic M&A as the second most important priority for firms generating excess cash. One respondent stated that "eight times out of 10, companies wait too long and end up paying three times more than they would have, had they taken advantage of the situation when times were bad."
Continuing balance sheet problems in developed economies are also likely to prompt large parent companies to divest assets in some emerging markets. Some of the large Latin American companies (multi-latinas) will be well placed to take advantage of this trend, contributing to the increasing trend of intra-regional M&A.
Barriers to investment
However, there are still significant barriers to intra-regional investment, which continue to hinder the attainment of M&A levels seen in other regions of the world: cultural factors remain a structural constraint.
Although family ownership is a potential spur to M&A activity, particularly in the case of small companies struggling with cashflow or succession issues, in the case of larger firms it can hinder M&A. This is particularly evident in Mexico, where a small number of families control several of the largest business groups, resulting in a high concentration of the stock exchange — more than half of the total share volume is controlled by five companies.
Weaker standards of due diligence may also continue to present a barrier to successful M&A. A 2008 survey conducted by the private sector firm mergermarket, which reports on potential deals, found that respondents identified a lack of reliable information on the target company as the most serious obstacle to M&A in Latin America. Respondents also highlighted difficulties associated with a business culture that is protective of its operations. Weaker standards of financial reporting also remain a problem, particularly when assets are overvalued. This is a particular problem in countries with complex tax regimes.
Although most of the region’s banks have emerged relatively unscathed from the global recession — boding well for growth prospects in 2010 — this has to some degree reflected the fact that financial systems are less developed than their Western counterparts, with little exposure to the toxic assets that inflicted so much damage in developed markets. However, given that deals are likely to be characterised by less-leveraged transactions, this is unlikely to be sufficiently important to prevent the growth of M&A in the region, although it will constrain the pace of expansion.
Spread of M&A prospects
The expected increase in M&A activity will not be spread evenly across the region. Deals are set to be concentrated in certain countries. Brazil, already accounting for the lion’s share of deal activity, will consolidate its position as a regional leader, with increasing investment from regional players, as well as further afield from the Middle East and Asia. This reflects both its scale and Brazil’s macro-economic progress made in recent years, which has allowed it to rebound quickly and strongly from the downturn, as well as the increasing depth and relative sophistication of its financial markets. Significant amounts of positive media coverage in recent times emphasise Brazil’s attributes as a high-quality investment destination.
Orthodox policy frameworks will also encourage an increase in M&A activity in Colombia, Chile and Peru. By contrast, deterioration in the business environment in Venezuela, Argentina and Bolivia makes it less likely that these countries will be targets for firms seeking significant acquisitions in new markets.
In terms of sectors, nearly 60% of current M&A activity in Latin America takes place in just three sectors: mining, financial services and retail. While these sectors are expected to remain important, expected significant consolidation in the fragmented education and health sectors will also create opportunities.
The healthcare sector, in particular, looks buoyant: global pharmaceutical firms have bucked the trend of a sharp M&A deceleration and witnessed some of the largest deals in recent years. Healthcare companies are likely to be looking for strategic acquisitions that serve as a stepping-stone into new markets.
Construction is also expected to be a dynamic growth area for M&A, given the emphasis of several governments in the region on improving infrastructure. This trend is being fostered by Spanish companies offloading their holdings by selling assets in Latin America.
All of which adds up to bright prospects for the mid-market in Latin America — and the prospect of more family businesses deciding that the time is right to move on.
UHY has extensive coverage of the Latin America region with firms in key business centres in Argentina, Brazil, Chile, Colombia, Ecuador, Guatemala, Mexico, Peru, Puerto Rico, Uruguay and Venezuela. UHY’s specialist knowledge of M&A is co-ordinated through a global Special Interest Group (SIG) made up of representatives from our business centres in different countries and regions who share technical knowledge and exchange information on opportunities for investment and details of interested potential buyers.