Europe

GLOBAL INVESTOR 1.14 — 38
Corporates have many choices available
A step up in capex needs tighter capacity
utilization rates
The European economic recovery may not be
so vigorous as to require a material expansion
in aggregate capital stock. Companies typically
only add to their productive capacity once
utilization rates rise toward full capacity and
to avoid ceding market share to competitors.
A weak growth environment may make raising
capacity relatively uneconomical.
Conditions look ripe for increased
M&A activity …
Instead, companies may seek to deliver the
growth in revenues – and ultimately the earnings
per share that the equity market is looking
for – via mergers and acquisitions. And
since the low inflationary environment has
also left its mark on producer pricing, firms
may well benefit from M&A activity if it consolidates
the market and improves industry
discipline in the process. Competition authorities
will probably be reluctant to allow
mergers that reduce competition and raise
pricing, which explains why companies will
never openly mention this as the motivation
for M&A. Elaborate cost synergies will often
be presented, even if the true rationale underlying
M&A activity often involves improving
market dynamics.
… and may lead to deteriorating corporate
credit quality
We are seeing a marked step-up in M&A activity.
So far, many transactions have been
financed with a substantial equity component,
which limits the potential negative credit
impact. Nonetheless, the current cheap and
plentiful financing available in the corporate
bond market may well encourage corporates
to increasingly use debt in their funding mix,
ultimately leading to an increase in leverage.
It seems likely that we are in the early stages
of an increase in corporate leverage that will
ultimately feed through to pressure on credit
ratings. Sectors likely to see the most M&A
activity include healthcare, telecommunications
and materials, although in reality we
think conditions are ripe for widespread activity
across the board.
01_Corporate cash piles remain high
Corporate cash holdings look ample compared to recent decades and
are complemented by easy access to bond markets. This provides plenty
of fire power for a material increase in corporate actions.
Source: DataStream, Credit Suisse / IDC
02_Corporate confidence is improving
The CEO Confidence index is a survey conducted by the Conference Board
and PwC that measures CEOs’ assessment of current economic conditions.
A reading above 50 indicates more positive responses than negative and that
CEOs expect economic conditions to improve. Source: DataStream, Credit Suisse / IDC
in % in %
5.5
5.0
80
4.5
70
4.0
60
3.5
50
3.0
2.5
40
2.0
30
1.5
20
1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010
Mar 76 Mar 80 Mar 84 Mar 88 Mar 92 Mar 96 Mar 00 Mar 04 Mar 08 Mar 12
Non-financial corporate sector: cash/total assets US CEO business confidence Average