Market gyrations triggered by fears over the coronavirus and COVID-19 epidemic are threatening to disrupt corporate merger and acquisition activity, with danger to deals increasing the longer the crisis drags on.
Panic selling hit stock markets around the world last week, leading to a record-setting point loss on Wall Street. The market turmoil, alongside fears of widespread economic disruption, is making it hard for buyers to assess the value of companies’ shares in takeover deals, and is making sellers hesitate to proceed while valuations are depressed.
On Thursday, shares in Cineplex Inc., the Canadian movie theatre operator, sank 8 per cent after a U.S. short-seller speculated its takeover by British-based Cineworld Group PLC could fall apart or be repriced. There is worry that moviegoers will avoid public events because of coronavirus fears, potentially making the $34-a-share buyout price – approved by shareholders of both companies – too steep.
Cineplex shares closed at $29.86 on Thursday, down $2.62. The companies did not comment on the speculation.
The big unknown for M&A deal makers is how severe and lengthy the global slowdown will be and how it will affect corporate cash flows and, by extension, the company valuations that form the foundation of deals, investment bankers say.
“I struggle to create a positive narrative about this. Volatility in equity markets is not conducive to M&A. Valuations are whipping around,” said Grant Kernaghan, chairman and chief executive officer of Citigroup Global Markets Canada Inc.
“Until the equity markets have hit some point of stability, it’s very difficult to price an M&A transaction.”
Until the market swoon last week, the deal flow was shaping up to be as brisk as last year, said Mr. Kernaghan, whose office specializes in cross-border deals, often involving pension and private equity funds as buyers.
Over the past two weeks, markets have whipsawed as investors struggled to gauge the long-term impact of the contagion on world economies and various industries, notably travel, energy and retail. The S&P 500 fell as much as 13 per cent last week. It has since clawed back about 5 per cent. Domestically, the S&P/TSX Composite Index fell as much as 9 per cent, and has recovered about 3 per cent in the same period.
So far, there is no word of formally announced deals or auction processes being put on hold or cancelled as a result of the uncertainty in the markets. However, some in the planning stages are being put on ice, said Peter Buzzi, co-head of global mergers and acquisition at RBC Capital Markets. He did not divulge which of the bank’s clients are involved in rerunning the numbers to gauge if deals still makes sense.
“Right now, we’re working on a number of transactions where people have said, maybe it’s a good time to just pause and see how this thing plays out over the next several weeks with respect to which direction the markets are going and, more importantly, which direction the economy is going," Mr. Buzzi said.
Bankers, lawyers and companies are considering adding the risk of coronavirus to merger agreements, as a potential “material adverse change” that could trigger the repricing or even cancellation of a deal, said Geoff Barsky, head of mergers and acquisitions, Canada and International, at BMO Capital Markets.
With Cineworld and Cineplex, the agreement signed in December specifically excludes “outbreaks of illness or other acts of God” from its definition of a material adverse effect, meaning the outbreak of coronavirus alone cannot be used to terminate the transaction.
This week, the U.S. Federal Reserve cut its benchmark interest rate by half a percentage point. The Bank of Canada followed, trimming its overnight lending rate by 50 basis points to 1.25 per cent, while signalling the potential for more rate cuts as the virus spreads, possibly hurting business and consumer confidence.
Already, major corporations including Apple Inc., Microsoft Corp, Hyatt Hotels Corp. and Visa Inc. have scrapped their 2020 financial outlooks.
On the deals front, buyers and sellers are taking hard looks at valuations and structures of potential transactions, but none has declared “pens down,” Mr. Barsky said.
“What I would say is, nothing outright cancelled, but I think people are taking stock of what the uncertainty could be and what the volatility would be in the coming weeks,” Mr. Barsky said.
“I think if any company was going to launch a sale process right now, they’d have to consider the implications of [whether this is] the right time – especially ones that would be dependent on a financing strategy – to ensure that you have certainty around that.”
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Jeffrey Jones
Mark Rendell