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8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 144
Capital InsightsHelping businesses raise invest preserve and optimize capital
SAPrsquos Werner Brandt on smartMampA organic growth andclear capital management
Makingthe market
The top 10 acquirers
India open for business
Asset managementthe dawn of a new era
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 244
Capital Insights from the Transaction Advisory Services practice at EY
For EYMarketing Director Leor Franks(lfranksukeycom)
Program Director Nathaniel Hass(nhassukeycom)Consultant Editor Richard HallCompliance Editor Jwala PoovakattCreative Manager Laura HodgesCreative Executive Jess CowleyDesign Consultant David HaleSenior Digital Designer Christophe MenardDeployment Executive Angela Singgih
For RemarkEditor Nick CheekAssistant Editor Sean LightbownHead of Design Jenisa PatelDesigner Anna ChouProduction Managers Daniela SchichorDavid SwettenhamEMEA Director Simon Elliott
Capital Insights is published on behalf of
EY by Remark the publishing
and events division of Mergermarket Ltd
80 Strand London WC2R 0RL UK
wwwmergermarketgroupcomevents-publications
EY | Assurance | Tax | Transactions | Advisory
About EYEY is a global leader in assurance tax transactionand advisory services The insights and qualityservices we deliver help build trust and condence
in the capital markets and in economies the worldover We develop outstanding leaders who team todeliver on our promises to all of our stakeholdersIn so doing we play a critical role in building a betterworking world for our people for our clients and forour communities
EY refers to the global organization and mayrefer to one or more of the member rms of EY
Global Limited each of which is a separate legalentity EY Global Limited a UK company limited byguarantee does not provide services to clients Formore information about our organization please
visit eycom
About EYs Transaction Advisory Services How organizations manage their capital agendatoday will dene their competitive position
tomorrow We work with our clients to helpthem make better and more informed decisionsabout how they strategically manage capitaland transactions in a changing world Whetheryoursquore preserving optimizing raising or investingcapital EYrsquos Transaction Advisory Services bringtogether a unique combination of skills insightand experience to deliver tailored advice attunedto your needs mdash helping you drive competitiveadvantage and increased shareholder returnsthrough improved decision-making across allaspects of your capital agenda
copy 2013 EYGM Limited
All Rights Reserved
EYG no DE 0433
ED 1013
This material has been prepared for general
informational purposes only and is not intended to be
relied upon as accounting tax or other professional
advice Please refer to your advisors for specic advice
The opinions of third parties set out in this publication
are not necessarily the opinions of the global
EY organization or its member rms Moreover
they should be viewed in the context of the time
they were expressed
wwweycomServicesTransactions
ContributorsCapital Insights would like to thank the following
business leaders for their contribution to this issue
A l l d a t a i n C a p i t a l I n s i g h t s i s c o r r e c t a t 1 J u l y 2 0 1 3 u n l e s s o t h e r w i s e s t a t e d
copy P
a u l H e a r t f e l d
Helping businesses raise invest
preserve and optimize capital
P r e s e r v
i n g O
p t i m i z
i n g
R a i s
i n g
I n v e s
t i n g
Gunjan Bagla
Author Doing
Business in 21st
Century India
James M Loree
President and
COO
Stanley Black amp
Decker
Wolf-Dieter
Starp
Head of Global
MampA
BASF
Hugh Young
Managing
Director
Aberdeen Asset
Management Asia
Alix Stewart
Head of UK
Corporate
Bonds
Schroders
Mike Teng
CEO
Corporate
Turnaround
Centre
Bill Bohstedt
Vice President mdash
MampA Arthur J
Gallagher amp Co
Cedric Collange
Senior Vice
President for
MampA Schneider
Electric
Rob Conn
Founder
Innova Capital
Elizabeth
Corley
CEO Allianz
Global Investors
Arvind Dham
Chairman
Amtek Auto
Group
Barry Donlon
Managing
Director DCM
EMEA
UBS
Yves Doz
Professor
of Strategic
Management
INSEAD
Ed Dymott
Head of
Business
Development
Fidelity
Anna Faelten
Deputy Director
MARC
Cass Business
School
Campbell
Fleming
CEO
Threadneedle
Investments
Ehud Ronn
Professor of
Finance
University of
Texas at Austin
Prashant Mara
Head of India
Practice
Osborne Clarke
Chetan Modi
EMEA Head
of Leverage
Finance
Moodys
Brian May
Finance Director
Bunzl
Massimo Tosato
Global Head of
Distribution
Schroders
Adrian MuttonCEO
Sannam S4
Angad PaulCEO
Caparo
Piers
Prichard-Jones
CorporatePartner
Freshelds
Brendon Moran
Co-head
CorporateOriginations
Socieacuteteacute Geacuteneacuterale
Werner Brandt
CFO SAP
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 344
For more insights visit wwwcapitalinsightsinfo where you can find our latest
thought leadership including our market-leading Capital Confidence Barometer
Joachim Spi
Transaction Advisory Services Leader EMEI
(Europe Middle East India and Africa) at E
If you have any feedback or questions please email joachimcapitalinsightsinf
American golfing great Jack Nicklaus once said ldquoConfidence is
the most important single factor in this gamerdquo The same notion
rings true for MampA And thankfully it appears that confidence in
dealmaking is returning to the boardroom
In EYrsquos latest Capital Confidence Barometer (CCB) released in
April 72 of respondents said they expected global deal volumes to
improve over the next year Overall economic confidence has improved
significantly 87 of those surveyed in the CCB view the global economy
as either stable or improving up from 69 in October 2012
As self-belief grows business leadersrsquo focus shifts back to investing
So in this issue of Capital Insights we explore how companies can get
the very best from their deals
MampA is a three-act story First pinpointing the right locations
Second doing the deal Third ensuring that post-merger integration
plans are ready early And we have key insights for every stage
On page 30 we explore why companies need to take a more targeted
approach when entering rapid-growth markets Elsewhere corporates
both inside and outside India provide insights into how to get the best ou
of deals in Asias third-largest economy (page 24) And on page 20 we
investigate how to pull off a successful post-merger integration planThese issues are brought together in our in-depth and exclusive
interview with SAPrsquos CFO Werner Brandt He tells us how brave
acquisitions and a strong integration policy have helped SAP become
Europersquos most successful technology company (page 14) In another
exclusive story (page 8) we reveal the top 10 acquirers of the last five
years and analyze what other corporates can learn
Itrsquos good news that confidence is making a comeback but it needs
to be allied to a strong deal rationale proper preparation and a clear
growth strategy For those not only looking to do deals but also to raise
preserve invest and optimize capital I hope that this issue of EYs
Capital Insights will help give you the tools to go with your appetite
Confidence breeds success
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 444
14SAP
Features8 Transaction insights The top 10
In a special edition of ldquoTransaction insightsrdquowe reveal the top 10 acquirers since 2008and discuss MampA with some of the worldrsquosmost acquisitive corporates
14 Cover story Making the market
SAP CFO Werner Brandt reveals howintelligent deals innovation and clear capitalmanagement have helped the Europeantechnology giant to thrive
20 Put the pieces togetherIt may not grab the headlines quite like a dealannouncement but post-merger integrationis vital to MampA success We identify the topfactors behind uniting companies correctly
24 India IncAs one of the worldrsquos leading emerging
economies the Asian giant is a key target forthose looking to grow But what do companiesneed to know before investing in India
30 Taking aimCorporates from developed economies areincreasingly looking to emerging nations forgrowth But how can companies target thesemarkets effectively
34 The big issuanceCorporate bond markets are boomingBut as a source of capital is their growth
in popularity sustainable or will governmentaction change the funding cycle again
38 Taking care of businessAsset management emerged relativelyunscathed from the nancial crisis But
the industry must push for innovation andmanage regulation to reach its full potential
8Top 10 acquirers
WINNER 2012
EY is proud to be the FinancialTimesMergermarket EuropeanAccountancy Firm of The Year
1EY mdash recognized by Mergermarket as
top of the European league tables for
accountancy advice on transactions
in calendar year 2012
As run on 7 January 2013
C o r b i s L y n s e y A d d a r i o V I I
copy P
a u l H e a r t f e l d
G e t t y I m a g e s Z e n S e k i z a w a
Capital Insights from the Transaction Advisory Services practice at EY
Capital InsightsHelping businesses raise invest preserve and optimize capital
Q 3 2 0 1 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 544
On the web or on the moveCapital Insights is available online and on your mobiledevice To access extra content and download the appvisit wwwcapitalinsightsinfo
Regulars06 HeadlinesThe latest news in the world ofcorporate fnance and what it means
for your business
07 Deal dynamicsEYrsquos Paumlr-Ola Hansson explains howcompanies can establish a successfulplatform in brand-new countries
29 The PE perspectiveEYrsquos Sachin Date discusses how privateequity needs to work hard to attractlimited partnersrsquo capital
42 Moellerrsquos cornerMampA Professor Scott Moeller reveals thesigns that show a deal is in trouble andhow corporates can mitigate the risks
43 Further insightsFind out about exclusive content
available on the Capital Insights website
(wwwcapitalinsightsinfo) and new
apps Plus details on three EY thought
leadership reports on rapid-growth
markets private equity and working
capital management
30MampA targeting
India 24
Corporate bonds34
G e t t y I m a g e s W e s t e n d 6 1
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 644
Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 244
Capital Insights from the Transaction Advisory Services practice at EY
For EYMarketing Director Leor Franks(lfranksukeycom)
Program Director Nathaniel Hass(nhassukeycom)Consultant Editor Richard HallCompliance Editor Jwala PoovakattCreative Manager Laura HodgesCreative Executive Jess CowleyDesign Consultant David HaleSenior Digital Designer Christophe MenardDeployment Executive Angela Singgih
For RemarkEditor Nick CheekAssistant Editor Sean LightbownHead of Design Jenisa PatelDesigner Anna ChouProduction Managers Daniela SchichorDavid SwettenhamEMEA Director Simon Elliott
Capital Insights is published on behalf of
EY by Remark the publishing
and events division of Mergermarket Ltd
80 Strand London WC2R 0RL UK
wwwmergermarketgroupcomevents-publications
EY | Assurance | Tax | Transactions | Advisory
About EYEY is a global leader in assurance tax transactionand advisory services The insights and qualityservices we deliver help build trust and condence
in the capital markets and in economies the worldover We develop outstanding leaders who team todeliver on our promises to all of our stakeholdersIn so doing we play a critical role in building a betterworking world for our people for our clients and forour communities
EY refers to the global organization and mayrefer to one or more of the member rms of EY
Global Limited each of which is a separate legalentity EY Global Limited a UK company limited byguarantee does not provide services to clients Formore information about our organization please
visit eycom
About EYs Transaction Advisory Services How organizations manage their capital agendatoday will dene their competitive position
tomorrow We work with our clients to helpthem make better and more informed decisionsabout how they strategically manage capitaland transactions in a changing world Whetheryoursquore preserving optimizing raising or investingcapital EYrsquos Transaction Advisory Services bringtogether a unique combination of skills insightand experience to deliver tailored advice attunedto your needs mdash helping you drive competitiveadvantage and increased shareholder returnsthrough improved decision-making across allaspects of your capital agenda
copy 2013 EYGM Limited
All Rights Reserved
EYG no DE 0433
ED 1013
This material has been prepared for general
informational purposes only and is not intended to be
relied upon as accounting tax or other professional
advice Please refer to your advisors for specic advice
The opinions of third parties set out in this publication
are not necessarily the opinions of the global
EY organization or its member rms Moreover
they should be viewed in the context of the time
they were expressed
wwweycomServicesTransactions
ContributorsCapital Insights would like to thank the following
business leaders for their contribution to this issue
A l l d a t a i n C a p i t a l I n s i g h t s i s c o r r e c t a t 1 J u l y 2 0 1 3 u n l e s s o t h e r w i s e s t a t e d
copy P
a u l H e a r t f e l d
Helping businesses raise invest
preserve and optimize capital
P r e s e r v
i n g O
p t i m i z
i n g
R a i s
i n g
I n v e s
t i n g
Gunjan Bagla
Author Doing
Business in 21st
Century India
James M Loree
President and
COO
Stanley Black amp
Decker
Wolf-Dieter
Starp
Head of Global
MampA
BASF
Hugh Young
Managing
Director
Aberdeen Asset
Management Asia
Alix Stewart
Head of UK
Corporate
Bonds
Schroders
Mike Teng
CEO
Corporate
Turnaround
Centre
Bill Bohstedt
Vice President mdash
MampA Arthur J
Gallagher amp Co
Cedric Collange
Senior Vice
President for
MampA Schneider
Electric
Rob Conn
Founder
Innova Capital
Elizabeth
Corley
CEO Allianz
Global Investors
Arvind Dham
Chairman
Amtek Auto
Group
Barry Donlon
Managing
Director DCM
EMEA
UBS
Yves Doz
Professor
of Strategic
Management
INSEAD
Ed Dymott
Head of
Business
Development
Fidelity
Anna Faelten
Deputy Director
MARC
Cass Business
School
Campbell
Fleming
CEO
Threadneedle
Investments
Ehud Ronn
Professor of
Finance
University of
Texas at Austin
Prashant Mara
Head of India
Practice
Osborne Clarke
Chetan Modi
EMEA Head
of Leverage
Finance
Moodys
Brian May
Finance Director
Bunzl
Massimo Tosato
Global Head of
Distribution
Schroders
Adrian MuttonCEO
Sannam S4
Angad PaulCEO
Caparo
Piers
Prichard-Jones
CorporatePartner
Freshelds
Brendon Moran
Co-head
CorporateOriginations
Socieacuteteacute Geacuteneacuterale
Werner Brandt
CFO SAP
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 344
For more insights visit wwwcapitalinsightsinfo where you can find our latest
thought leadership including our market-leading Capital Confidence Barometer
Joachim Spi
Transaction Advisory Services Leader EMEI
(Europe Middle East India and Africa) at E
If you have any feedback or questions please email joachimcapitalinsightsinf
American golfing great Jack Nicklaus once said ldquoConfidence is
the most important single factor in this gamerdquo The same notion
rings true for MampA And thankfully it appears that confidence in
dealmaking is returning to the boardroom
In EYrsquos latest Capital Confidence Barometer (CCB) released in
April 72 of respondents said they expected global deal volumes to
improve over the next year Overall economic confidence has improved
significantly 87 of those surveyed in the CCB view the global economy
as either stable or improving up from 69 in October 2012
As self-belief grows business leadersrsquo focus shifts back to investing
So in this issue of Capital Insights we explore how companies can get
the very best from their deals
MampA is a three-act story First pinpointing the right locations
Second doing the deal Third ensuring that post-merger integration
plans are ready early And we have key insights for every stage
On page 30 we explore why companies need to take a more targeted
approach when entering rapid-growth markets Elsewhere corporates
both inside and outside India provide insights into how to get the best ou
of deals in Asias third-largest economy (page 24) And on page 20 we
investigate how to pull off a successful post-merger integration planThese issues are brought together in our in-depth and exclusive
interview with SAPrsquos CFO Werner Brandt He tells us how brave
acquisitions and a strong integration policy have helped SAP become
Europersquos most successful technology company (page 14) In another
exclusive story (page 8) we reveal the top 10 acquirers of the last five
years and analyze what other corporates can learn
Itrsquos good news that confidence is making a comeback but it needs
to be allied to a strong deal rationale proper preparation and a clear
growth strategy For those not only looking to do deals but also to raise
preserve invest and optimize capital I hope that this issue of EYs
Capital Insights will help give you the tools to go with your appetite
Confidence breeds success
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
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14SAP
Features8 Transaction insights The top 10
In a special edition of ldquoTransaction insightsrdquowe reveal the top 10 acquirers since 2008and discuss MampA with some of the worldrsquosmost acquisitive corporates
14 Cover story Making the market
SAP CFO Werner Brandt reveals howintelligent deals innovation and clear capitalmanagement have helped the Europeantechnology giant to thrive
20 Put the pieces togetherIt may not grab the headlines quite like a dealannouncement but post-merger integrationis vital to MampA success We identify the topfactors behind uniting companies correctly
24 India IncAs one of the worldrsquos leading emerging
economies the Asian giant is a key target forthose looking to grow But what do companiesneed to know before investing in India
30 Taking aimCorporates from developed economies areincreasingly looking to emerging nations forgrowth But how can companies target thesemarkets effectively
34 The big issuanceCorporate bond markets are boomingBut as a source of capital is their growth
in popularity sustainable or will governmentaction change the funding cycle again
38 Taking care of businessAsset management emerged relativelyunscathed from the nancial crisis But
the industry must push for innovation andmanage regulation to reach its full potential
8Top 10 acquirers
WINNER 2012
EY is proud to be the FinancialTimesMergermarket EuropeanAccountancy Firm of The Year
1EY mdash recognized by Mergermarket as
top of the European league tables for
accountancy advice on transactions
in calendar year 2012
As run on 7 January 2013
C o r b i s L y n s e y A d d a r i o V I I
copy P
a u l H e a r t f e l d
G e t t y I m a g e s Z e n S e k i z a w a
Capital Insights from the Transaction Advisory Services practice at EY
Capital InsightsHelping businesses raise invest preserve and optimize capital
Q 3 2 0 1 3
8142019 Capital Inside
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On the web or on the moveCapital Insights is available online and on your mobiledevice To access extra content and download the appvisit wwwcapitalinsightsinfo
Regulars06 HeadlinesThe latest news in the world ofcorporate fnance and what it means
for your business
07 Deal dynamicsEYrsquos Paumlr-Ola Hansson explains howcompanies can establish a successfulplatform in brand-new countries
29 The PE perspectiveEYrsquos Sachin Date discusses how privateequity needs to work hard to attractlimited partnersrsquo capital
42 Moellerrsquos cornerMampA Professor Scott Moeller reveals thesigns that show a deal is in trouble andhow corporates can mitigate the risks
43 Further insightsFind out about exclusive content
available on the Capital Insights website
(wwwcapitalinsightsinfo) and new
apps Plus details on three EY thought
leadership reports on rapid-growth
markets private equity and working
capital management
30MampA targeting
India 24
Corporate bonds34
G e t t y I m a g e s W e s t e n d 6 1
D o r l i n g K i n d e r s l e y
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8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
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Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
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TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
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In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
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2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 344
For more insights visit wwwcapitalinsightsinfo where you can find our latest
thought leadership including our market-leading Capital Confidence Barometer
Joachim Spi
Transaction Advisory Services Leader EMEI
(Europe Middle East India and Africa) at E
If you have any feedback or questions please email joachimcapitalinsightsinf
American golfing great Jack Nicklaus once said ldquoConfidence is
the most important single factor in this gamerdquo The same notion
rings true for MampA And thankfully it appears that confidence in
dealmaking is returning to the boardroom
In EYrsquos latest Capital Confidence Barometer (CCB) released in
April 72 of respondents said they expected global deal volumes to
improve over the next year Overall economic confidence has improved
significantly 87 of those surveyed in the CCB view the global economy
as either stable or improving up from 69 in October 2012
As self-belief grows business leadersrsquo focus shifts back to investing
So in this issue of Capital Insights we explore how companies can get
the very best from their deals
MampA is a three-act story First pinpointing the right locations
Second doing the deal Third ensuring that post-merger integration
plans are ready early And we have key insights for every stage
On page 30 we explore why companies need to take a more targeted
approach when entering rapid-growth markets Elsewhere corporates
both inside and outside India provide insights into how to get the best ou
of deals in Asias third-largest economy (page 24) And on page 20 we
investigate how to pull off a successful post-merger integration planThese issues are brought together in our in-depth and exclusive
interview with SAPrsquos CFO Werner Brandt He tells us how brave
acquisitions and a strong integration policy have helped SAP become
Europersquos most successful technology company (page 14) In another
exclusive story (page 8) we reveal the top 10 acquirers of the last five
years and analyze what other corporates can learn
Itrsquos good news that confidence is making a comeback but it needs
to be allied to a strong deal rationale proper preparation and a clear
growth strategy For those not only looking to do deals but also to raise
preserve invest and optimize capital I hope that this issue of EYs
Capital Insights will help give you the tools to go with your appetite
Confidence breeds success
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 444
14SAP
Features8 Transaction insights The top 10
In a special edition of ldquoTransaction insightsrdquowe reveal the top 10 acquirers since 2008and discuss MampA with some of the worldrsquosmost acquisitive corporates
14 Cover story Making the market
SAP CFO Werner Brandt reveals howintelligent deals innovation and clear capitalmanagement have helped the Europeantechnology giant to thrive
20 Put the pieces togetherIt may not grab the headlines quite like a dealannouncement but post-merger integrationis vital to MampA success We identify the topfactors behind uniting companies correctly
24 India IncAs one of the worldrsquos leading emerging
economies the Asian giant is a key target forthose looking to grow But what do companiesneed to know before investing in India
30 Taking aimCorporates from developed economies areincreasingly looking to emerging nations forgrowth But how can companies target thesemarkets effectively
34 The big issuanceCorporate bond markets are boomingBut as a source of capital is their growth
in popularity sustainable or will governmentaction change the funding cycle again
38 Taking care of businessAsset management emerged relativelyunscathed from the nancial crisis But
the industry must push for innovation andmanage regulation to reach its full potential
8Top 10 acquirers
WINNER 2012
EY is proud to be the FinancialTimesMergermarket EuropeanAccountancy Firm of The Year
1EY mdash recognized by Mergermarket as
top of the European league tables for
accountancy advice on transactions
in calendar year 2012
As run on 7 January 2013
C o r b i s L y n s e y A d d a r i o V I I
copy P
a u l H e a r t f e l d
G e t t y I m a g e s Z e n S e k i z a w a
Capital Insights from the Transaction Advisory Services practice at EY
Capital InsightsHelping businesses raise invest preserve and optimize capital
Q 3 2 0 1 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 544
On the web or on the moveCapital Insights is available online and on your mobiledevice To access extra content and download the appvisit wwwcapitalinsightsinfo
Regulars06 HeadlinesThe latest news in the world ofcorporate fnance and what it means
for your business
07 Deal dynamicsEYrsquos Paumlr-Ola Hansson explains howcompanies can establish a successfulplatform in brand-new countries
29 The PE perspectiveEYrsquos Sachin Date discusses how privateequity needs to work hard to attractlimited partnersrsquo capital
42 Moellerrsquos cornerMampA Professor Scott Moeller reveals thesigns that show a deal is in trouble andhow corporates can mitigate the risks
43 Further insightsFind out about exclusive content
available on the Capital Insights website
(wwwcapitalinsightsinfo) and new
apps Plus details on three EY thought
leadership reports on rapid-growth
markets private equity and working
capital management
30MampA targeting
India 24
Corporate bonds34
G e t t y I m a g e s W e s t e n d 6 1
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 644
Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
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2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 444
14SAP
Features8 Transaction insights The top 10
In a special edition of ldquoTransaction insightsrdquowe reveal the top 10 acquirers since 2008and discuss MampA with some of the worldrsquosmost acquisitive corporates
14 Cover story Making the market
SAP CFO Werner Brandt reveals howintelligent deals innovation and clear capitalmanagement have helped the Europeantechnology giant to thrive
20 Put the pieces togetherIt may not grab the headlines quite like a dealannouncement but post-merger integrationis vital to MampA success We identify the topfactors behind uniting companies correctly
24 India IncAs one of the worldrsquos leading emerging
economies the Asian giant is a key target forthose looking to grow But what do companiesneed to know before investing in India
30 Taking aimCorporates from developed economies areincreasingly looking to emerging nations forgrowth But how can companies target thesemarkets effectively
34 The big issuanceCorporate bond markets are boomingBut as a source of capital is their growth
in popularity sustainable or will governmentaction change the funding cycle again
38 Taking care of businessAsset management emerged relativelyunscathed from the nancial crisis But
the industry must push for innovation andmanage regulation to reach its full potential
8Top 10 acquirers
WINNER 2012
EY is proud to be the FinancialTimesMergermarket EuropeanAccountancy Firm of The Year
1EY mdash recognized by Mergermarket as
top of the European league tables for
accountancy advice on transactions
in calendar year 2012
As run on 7 January 2013
C o r b i s L y n s e y A d d a r i o V I I
copy P
a u l H e a r t f e l d
G e t t y I m a g e s Z e n S e k i z a w a
Capital Insights from the Transaction Advisory Services practice at EY
Capital InsightsHelping businesses raise invest preserve and optimize capital
Q 3 2 0 1 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 544
On the web or on the moveCapital Insights is available online and on your mobiledevice To access extra content and download the appvisit wwwcapitalinsightsinfo
Regulars06 HeadlinesThe latest news in the world ofcorporate fnance and what it means
for your business
07 Deal dynamicsEYrsquos Paumlr-Ola Hansson explains howcompanies can establish a successfulplatform in brand-new countries
29 The PE perspectiveEYrsquos Sachin Date discusses how privateequity needs to work hard to attractlimited partnersrsquo capital
42 Moellerrsquos cornerMampA Professor Scott Moeller reveals thesigns that show a deal is in trouble andhow corporates can mitigate the risks
43 Further insightsFind out about exclusive content
available on the Capital Insights website
(wwwcapitalinsightsinfo) and new
apps Plus details on three EY thought
leadership reports on rapid-growth
markets private equity and working
capital management
30MampA targeting
India 24
Corporate bonds34
G e t t y I m a g e s W e s t e n d 6 1
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
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TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 544
On the web or on the moveCapital Insights is available online and on your mobiledevice To access extra content and download the appvisit wwwcapitalinsightsinfo
Regulars06 HeadlinesThe latest news in the world ofcorporate fnance and what it means
for your business
07 Deal dynamicsEYrsquos Paumlr-Ola Hansson explains howcompanies can establish a successfulplatform in brand-new countries
29 The PE perspectiveEYrsquos Sachin Date discusses how privateequity needs to work hard to attractlimited partnersrsquo capital
42 Moellerrsquos cornerMampA Professor Scott Moeller reveals thesigns that show a deal is in trouble andhow corporates can mitigate the risks
43 Further insightsFind out about exclusive content
available on the Capital Insights website
(wwwcapitalinsightsinfo) and new
apps Plus details on three EY thought
leadership reports on rapid-growth
markets private equity and working
capital management
30MampA targeting
India 24
Corporate bonds34
G e t t y I m a g e s W e s t e n d 6 1
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 644
Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
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extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 644
Capital Insights from the Transaction Advisory Services practice at EYCapital Insights from the Transaction Advisory Services practice at EY
HeadlinesEmerging bonds boomEmerging market corporates are set to overtake
their developed peers in terms of debt
Standard and Poorrsquos (SampP) figures show that
Chinarsquos corporates could owe US$138t by the
end of 2014 more than the US$137t set to be
owed by the US This figure could reach US$18t
by 2017 mdash over a third of the US$53t that SampP
expects global companies will need in terms
of debt and refinancing And in May Brazilrsquos
Petrobas (pictured below) sold US$11b-worth
of bonds on a single day mdash the largest bond issue
by an emerging market company ever With
investors hungry for returns corporates in rapid-
growth economies are in an ideal position to tap
the market For more on bonds see page 34
Safety first for fundsAsset managers are playing safe when it comes
to distributing their investorsrsquo capital The BofA
Merrill Lynch Fund Manager Survey for June
revealed that fund managers are focusing more
on the US and Japan whereas by contrast
emerging markets are being shunned Global
emerging market equity allocations are at their
lowest since 2008 according to the survey
with a net 9 underweight in that area Opti-
mism in Europe is returning however with 6
of asset allocators overweight in that area mdash a
14 percentage point swing from Mayrsquos survey
Managers should be wary of balancing the
need to safeguard funds with the imperative
to generate returns For more on the asset
management sector see page 38
Time to bet on India India could be in store for a deal boom as inter-
national corporates look to tap the countryrsquosincreasingly prosperous population Consumer
spending growth in India is expected to average
89 in the next five years according to market
researcher Euromonitor On the back of this
foreign company bids for Indian food drink
cosmetic and household goods businesses
reached a record US$56b in the year to
15 May according to Bloomberg Examples in-
clude Unileverrsquos offer to raise its majority stake
in Hindustan Unilever Corporates continuing
the search for new growth areas would do well
to keep an eye on this Asian tiger For more onIndia see page 24
Confidence is coming back Corporate executives are getting ready to invest
their capital again In EYrsquos latest Global Capital
Confidence Barometer (GCCB) mdash a survey of
almost 1600 senior executives from around
the world mdash 40 now feel their organizationrsquos
focus lies in investing over the next year up
from 32 year on year Additionally 51 feel
the economy is improving up from 22 in
October 2012 And despite lower-than-normal
MampA volumes 72 expect global deal numbers
to improve while almost a third expect to do
a deal themselves within the next 12 months
These levels of confidence are a boost for
economies worldwide as well as for companies
looking to divest assets For more on the
GCCB visit wwwcapitalinsightsinfogccb
tc
GettyImagesManpreetRomanaStringe
r
crGettyImagesKrzysztofDydynski
The changing face of risk The risks involved in cross-border MampA
transactions are changing Law firm Baker
amp Mckenziersquos Opportunities in High-Growth
Markets Trends in Cross-Border MampA report
shows that concerns over cultural barriers
are diminishing as globalization presses on
with issues over corporate compliance (46
of respondents) as the top legal or regulatory
challenge Corruption is not so high with 29
of those surveyed considering it a main issue
Only accounting or business fraud (20) is
seen as less of a threat Additionally 50
believe that pre-transaction integration plan-
ning is the biggest factor in mitigating deal-
execution risk As challenges change in cross-
border deal-making corporates competing on
foreign soil need to be aware of the changing
deal climates in these new regions
The consumer evolutionThe consumer sector is undergoing a deal-
making revolution in response to a changing
economic climate EYrsquos Consumer products deals
quarterly Q1 2013 shows that there were 347
announced consumer deals in the first three
months of this year a 9 increase on deals from
Q4 2012 Acquisitions by private equity groups
in the consumer industry fell however from 60
to 55 over the same period The US still makes
up the bulk of the sectorrsquos deal activity making
up eight of the sectorrsquos top 10 deals by value
mdash the June 2013 buyout of Heinz by private
equity firm 3G and conglomerate Berkshire
Hathaway being a prime example and the largest
deal in Q1 2013 However corporates should
keep an eye on rapidly expanding consumer
markets outside their borders as well For more
on targeting emerging markets see page 30
P r e s e r v
i n g O p t i m
i z i n g
R a i s
i n g
I n v e s
t i n g
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
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In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
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2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 744
Paumlr-Ola Hansson is EMEIA Markets Leade
Transaction Advisory Services EYFor further insight please ema
par-olacapitalinsightsinf
Deal dynamics
Paumlr-Ola Hansson
The search for growth will leadmany corporates to boldly go
where they have not gone before
In regional terms this means
moving beyond developed markets and
into rapid-growth markets (RGMs) such
as Turkey Vietnam and Chile EYrsquos Rapid-
Growth Markets Forecast published in April
expects growth in the RGMs to accelerate
from 47 in 2012 to 6 in 2014
However entering a market where your
business has no previous presence requires
corporates to make several vital decisions
When looking to penetrate new marketscorporates must decide whether to create
alliances with local firms or build the
business alone This depends on the region
sector and nature of the business
For companies in highly regulated
sectors finding a strong local partner is
often vital for establishing a business For
instance in the financial services sector
Germanyrsquos Allianz acquired Turkish insurer
Yapi Kredi for euro684m (US$894m) in March
Board member Oliver Baumlte noted that ldquothis
transaction fits perfectly into Allianzrsquos
strategy to use bolt-on acquisitions to
strengthen its position in growth marketsrdquoFor more on finding the right JV partner
visit wwwcapitalinsightsinfojvs
On the other hand some companies
choose to take a more organic approach
This has been the case for Swedenrsquos IKEA
Its plans to open 25 stores in India were
approved by the Indian Government in May
As a privately owned company IKEA
is able to take a long-term approach to
investment in a new market As Juvencio copy P a u l H e a r t f e l d
As companies strive for growth they will ndthemselves heading into uncharted watersJust how do they establish a platform for success
unknown
Maeztu IKEArsquos India Chief Executive saidldquoWe will never compromise on a good
location So even if it takes five years to
[find] it is no problemrdquo
However many listed firms canrsquot wait
that long They have reporting requirements
and responsibilities to shareholders Itrsquos
more difficult for them to think long term
Whether a company enters organically
or via a partnership another issue is finding
the right model to monitor the organization
The key argument here is centralization
versus localization Corporate development
officers who have no corporatedevelopment function in new regions
need to redefine how they work That can
mean moving decision-making power from
headquarters to where the business is
growing A prime example of this came in
September 2012 when human resources
consultancy Aon Hewitt opened a new
office in Indonesia as part of its regional
expansion strategy At the time Edouard
Merette CEO of Aon Hewitt Consulting
in Asia Pacific said ldquoThe fast-growing
economy of Indonesia offers Aon Hewitt
an important business opportunity as
we continuously develop and affirm ourpresence throughout Southeast Asiardquo
There is also increasing pressure for
corporate social responsibility Companies
need to take environmental concerns into
account and engage in the communities
and cultures they enter
Clear strategy regional accessibility
and cultural accountability are the three
key drivers when seeking growth in a brave
new world
A step into the
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 844
TransactioninsightsKey facts and gures from the world of MampA This issue the top 10corporate acquirers by volume of the last ve years Plus the biggestdeal sectors and countries since 2008
Acquisitions are key drivers behind corporate
development and growth But which companies
have been buying the most and what insights can
other acquisitive corporates gain from the broadexperience of those who are most active These
are the questions Capital Insights asks and with
data supplied by Mergermarket looks to answer In
addition we reveal the top 10 sectors and regions
by deal volume since 2008 (see figures page 9)
The breakdown of the top 10 shows a mixture of
sectors regions and corporate sizes mdash proving that
growth via acquisition is not just limited to giants
such as Google and IBM With that in mind on page
10 we talk exclusively to corporate leaders from
three of the top 10 mdash Capita Arthur J Gallagher
amp Co and Bunzl mdash to discover more about their
growth strategies their rationale for deals and
some of the challenges they face and how theyhave overcome these
Meanwhile a breakdown of the top 10 sectors
(top page 9) since 2008 shows that the industrials
and chemicals sector has seen the most deals
followed unsurprisingly by the technology media
and telecommunications industry In terms of
regions (bottom page 9) it is interesting to note
that while developed economies dominate China
is in third place and Brazil India and South Korea sit
just outside the top 10
Methodology
bull The data for the top 10 has been
gathered from the Mergermarket
database of MampA transactions
bull The table shows deals conducted
by top-level companies across
the world from January 2008
to April 2013
bull The data only includes deals by
the parent company recorded on
the Mergermarket database It
does not include private equity
deals joint ventures lapsed or
subsidiary deals As a result deal
volumes may differ from those
expressed by the corporates
themselves
bull For further Mergermarket
deal criteria please visit www
mergermarketcompdfdeal_
criteriapdf
Big dealersThe table right showsthe top 10 acquirers since2008 by deal volumeaccording to MergermarketWe have chosen this periodto show which companieshave been most acquisitive
post financial crisisThe table shows the
deal landscape of the pastfive years and the top 10 isnot just limited to corporategiants While some suchas tech companies Googleand IBM are predictableserial acquirers due to thesectorrsquos history of big namessnapping up smaller start-ups others are from sectorswhich are traditionally lessacquisitive For instanceArthur J Gallagher amp Coand Bunzl are from theinsurance and distributionindustries respectively
In terms of geographythe US can boast fourcorporates in the top 10while Europe and Japanhave three apiece
Top 10 acquirers 2008mdash2013
Company Country Sector Deal volume
1 Google US Technology 50
2 IBM US Technology 49
3 Capita UK Outsourcing 43
4 Mitsui amp Co Japan Trading house 41
5 Marubeni Japan Trading house 40
6 Mitsubishi Japan Trading house 39
7 International Finance
CorporationUS Financial services 39
8 Arthur J Gallagher amp Co US Financial services 37
9 Assa Abloy Sweden Security 32
10 Bunzl UK Distribution 31
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 944
t
S h u t t e r s t o c k E Y
b
S h u t t e r s t o c k
The top sectorsThe industrial and chemicals sector leads
the way with 12901 deals since 2008
And it is continuing this strong performanc
overall so far in 2013 with over 500 deals
in Q1 alone In second place is the
technology media and telecommunications
sector with a total of 9772 deals since2008 The sector continues to flourish
in terms of deal values In the first five
months of 2013 alone deal values came in
at US$145b from 690 deals putting the
sector first value-wise this year
Despite a downturn in consumer
spending in developed countries the
consumer sector has been remarkably
buoyant over the past five years The
industry came in third place with a total of
8532 deals since 2008 Spending has also
increased across the sector So far in 2013
there have been 565 consumer sectordeals worth US$109b putting it third in
both volume and value terms for the year
This figure has been helped by megadeals
such as the buyout of food company Heinz
by Berkshire Hathaway and 3G for US$28b
The top countriesWhile the top 10 deal countries since 2008
are dominated by developed markets with
the exception of China more recent data
shows that times are changing Europersquos
economic troubles have taken their toll on
some of the more popular MampA destinations
in the continent Italy in sixth place in 2008
USA
18762 deals
Germany
3186 deals
Australia
1995 deals
UK
5280 deals
Top three countries
by deal volume
Netherlands
1596 deals
Italy
1741 deals
China
3532 deals
Japan
2038 deals
Other top countries
by deal volume
Top 10 countries by total deal volume since 2008
Canada
2490 deals
France
3010 deals
Transportation
2113 deals
Technology media and
telecommunications
9772 deals
Industrials and chemicals
12901 deals
Financial services
6210 deals
Energy mining and utilities
6667 deals
Consumer8532 deals
Leisure
2330 deals
Pharma
medical
and biotech
4744 deals
Business services
7936 deals
Construction
2583 deals
Top 10 sectors by total deal volume since 2008
with 453 deals is now down to 10th in the
first five months of 2013 with just 98 Spain
is faring worse falling from 10th in 2008
(334 deals) to 16th so far in 2013 (80)
One of the most noticeable trends
over the last few years has been the rise of
emerging markets as preferred investment
destinations China has consolidated its
position as the third-most popular MampA
destination in the last two years mdash behind
the US and UK However Brazilrsquos rise has
been much more recent It first appeared
in the top 10 geographies in 2011 rising
to ninth in 2013
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 |
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
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equity exits
How can private
equity investors
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businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1044
The last five years have been
turbulent for the MampA market
This period culminated with
a peak at the end of 2012
The yearrsquos final quarter saw the highest
MampA values since 2008 (US$737b from
3565 deals) according to Mergermarket
There has been a slowdown this year with
the 2789 deals in Q2 2013 comparing
unfavorably with Q2 2012rsquos 3327
However the number of megadeals takingplace such as Liberty Globalrsquos US$219b
buyout of Virgin Media combined with rising
confidence among corporates means that
there is room for increased optimism
EYrsquos Capital Confidence Barometer
(CCB) published in April shows that 72 of
respondents expected volumes to rise over
the next year Half are also more confident
about the number of opportunities available
compared with 37 in October 2012
Against this background of renewed confidence
we have looked back at the top 10 acquirers by volume
over the last half decade to uncover why they have been so
acquisitive and what other corporates can learn from their
deal strategies
Deal hungrySince 2008 those in the top 10 have done more than 400
deals between them The reasons why they have chosen
MampA for growth are as varied as the sectors they represent
Bill Bohstedt Vice President mdash MampA for US property andcasualty mergers at insurance broker Arthur J Gallagher
amp Co (AJG) believes that the rationale for acquisitions is
about finding the perfect partner to grow the business
ldquoThat was really our core vision for MampA growth finding
good merger partners who fit into our culture and wanting
to keep growing By coming together with us we grow better
together than we could if we were separaterdquo says Bohstedt
A similar sentiment is echoed by Ian West Director
of MampA for Capita the UK outsourcing group ldquoSmall
to medium-sized acquisitions that take us into new
The way
The top acquirers tell us about the strategieschallenges and keys to a successful deal
forward
GettyImagesZenSekizawa
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
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strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
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Take your tablets
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and preserving capital download the Capital
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8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1144
complementary areas and strengthen our
capabilities and scale have always played
a key role in Capitarsquos growthrdquo says West
Google has also stated that acquisitions
are about finding a perfect synergy between
bidder and target ldquoThe important thing
I look for is alignment between what the
entrepreneur wants to do with their product
and their company and what Google wants
to dordquo said David Lawee Googlersquos Vice
President of Corporate Development in
an interview in 2012 ldquoIf there is perfect
alignment then it has a very high chanceof success If there is not then we should
not be doing itrdquo
For IBM second in the table one of the
key drivers is innovation ldquoSmall companies
are started around a great idea to change
the worldrdquo said Steve Mills IBMrsquos Senior Vice
President and Group Executive for Software
and Systems at an information and analytics
forum last October ldquoBig companies through
acquisitions and RampD are also driving some
part of that innovation agendardquo
Breaking new groundAccording to Bunzlrsquos Finance Director Brian
May the companyrsquos acquisition rationale is
twofold to consolidate the business as well
as to break into new territories
Since 2008 the UK distribution giant
has spent an average of pound167m (US$257m)
per year on acquisitions ldquoWersquore in a
fragmented marketplacerdquo says May ldquoWe
are an acquisitive company the only one
consolidating in our industry mdash one that is
mainly comprised of family-run businessesrdquo
Bunzl has targeted South America mdash in
particular Brazil mdash as a key area for growth
Over the past five years the company hasundertaken a targeted acquisition strategy
to build the business there As recently as
March it bought medical supply business
Labor Import based in Sao Paulo
ldquoWe identified Brazil a market of 200m
people as a place with the scale and size of
GDP that makes it interesting for us Having
then researched the market we found there
existed suitable acquisition candidates
Brazil has the need for distribution whereas
in the other BRICs there isnrsquot that level of development
in our marketrdquo says May
The three Japanese trading houses in the list mdash Mitsui
amp Co Marubeni and Mitsubishi mdash have also made overseas
acquisitions something of a priority in recent years A good
example of this has been Marubenirsquos US$26b acquisition of
US grain trader Gavilon in June this year
When the deal was first announced in May 2012 the
company stated in its annual report that ldquoThis will further
raise Marubenirsquos global profile in grain trading More
importantly it will make it possible to address expanding
demand for grains in China and other emerging countriesrdquo
Swedish lock maker Assa Abloy has also usedacquisitions to break into emerging markets mdash in particular
China where it bought two companies Shandong Guoqiang
and Sahne Metal in 2012 Speaking at the beginning of the
year Chief Executive Johan Molin stated in an interview that
the volume of deals was a
result of having to compete
in emerging markets
ldquoAs people [in emerging
markets] get wealthier they
will spend more money on
door openingrdquo he said
ldquoThere are often very low-
quality doors in emerging marketsrdquo
Family values and volumeTaking the acquisition route to growth is often going to
be fraught with challenges For the high-volume acquirers
interviewed by Capital Insights the three key issues
identified were the type of companies on offer the volume of
businesses available and the valuations that the targets set
Doing deals in Bunzlrsquos sector often involves dealing with
family businesses This brings challenges for many firms
particularly when operating in emerging markets
ldquoWhen dealing with family businesses you need to
engage and build a greater level of trust We have separate
management teams and their heads will form relationships
with businesses we would ultimately like to buy Familiesdonrsquot want their business consumed and their identity
changed significantlyrdquo says May
ldquoThe deals often come when they need more investment
But we do relatively little with the front office The customer
relationships and supplier relationships we leave with the
families who we usually tie in to stay In the main it is what
they want as well as they have often reached the point
where to go to the next level is beyond their own resourcesrdquo
Itrsquos not only the types of businesses that pose issues
There is also the dilemma of getting a decent volume of
On the webFor more on how EYrsquos Capital Confdence Barometer affects CFOs readThe CFO Perspective mdash at a glance at wwwcapitalinsightsinfoccbcfo
Our challenge is to cast ournet as wide as possibleand get managementspreading the messageBill Bohstedt VP mdash MampA Arthur J Gallagher amp Co
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1244
businesses In the case of Bunzl ensuring
they have a good supply-line can sometimes
be the issue ldquoThere are the ongoing
challenges of getting a good supply of
businesses Overcoming this is all about
getting the right timing and building trust in
advancerdquo he says
For AJG the opposite is true Thereare around 38000 independent insurance
agencies in the US And the challenge is to
reach out to as many as possible in an effort
to find the most suitable partners
ldquo[To overcome] this issue we have to
have as many management people meeting
these merger partners in their areas and
at events and starting a dialoguerdquo says
Bohstedt ldquoBecause when they get ready to
sell we want them to know who we are and
consider us as a potential partner
A new perspectiveEYrsquos Pip McCrostie on what is needed to lift MampA activityfrom its lowest levels since the nancial crisis
ldquoIf we havenrsquot had that dialogue they may decide tomerge with one of our competitors Our challenge is to cast
our net as wide as possible and get management spreading
the message about the benefits of joining usrdquo
However arguably the main issue that many buyers face
is the valuation gap between themselves and their targets
In Aprilrsquos CCB 44 of respondents expected valuations to
increase over the next 12 months compared with only 31
in October 2012 For Ian West at Capita the solution is
disarmingly simple mdash stick to your guns
ldquoBeing disciplined around pricing is a critical factor for
doing the number of deals we do and for generating the
value that these acquisitions will ultimately createrdquo West
says ldquoThe biggest challenge is the temptation to becomelsquobusy foolsrsquo by chasing deals where pricing will always be
too high Itrsquos important to know when to leave well alone
or to walk awayrdquo
The high-volume acquirers all point to three key
messages when it comes to successful deals mdash find the right
partner agree on the right price and get the post-merger
integration (PMI) right (for more on this see the PMI
feature on page 20) And they should know With over
400 deals mdash many more if you include subsidiary and
joint venture deals mdash between them in the last five years
theyrsquove had the practice
What is your expectation for global MampAdeal volumesin the next 12 months
Decline
Remain the same
Improve
Return tohistoric highs
3
69
23
5
12
3
45
Itrsquos a tough time for MampA
However as wersquove seen markets
can change quickly If there is to
be an upswing in MampA this year
and beyond the following five
changes need to happen
Greater economic stability and
confidence in growth Therehas been more stability around
macroeconomic issues such as
the Eurozone but investors want
to see this translating into an
outlook for growth
Long-term stability in equity
markets This would provide
a more robust longer-term
view on valuations
and prices
Clarification on
QE unwinding The
complex impact of
the withdrawal of
QE and its influence
on the economy and equityindices is critical to better
understanding growth prospects
and asset prices
Greater shareholder influence
on investments Many large
corporates have big cash
piles Shareholders may want
that money to be utilized and
Pip McCrostie
is Global Vice ChairTransaction AdvisoryServices EY
inorganic growth could be part
of that equation
Bold movers Three-quarters of
big corporates expect MampA to rise
yet less than a third intend to do
a deal The lsquoyou firstrsquo sentiment
could turn into lsquome toorsquo if bold
moves are made and competitors
are seen to be establishing an
advantage via MampA
Source EY Capital Confdence Barometer
G e t t y I m a g e s A i r R a b b i t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1344
EY expertsSteve Krouskos
(SK) is Deputy
Leader GlobalTransaction Advi-
sory Services EY
Charles Honnywill(CH) is EuropeanHead of Sell Side
Services Trans-action Advisory
Services EY
M983078A The art of
The top 10 acquirers have shown that sector region orindeed size is no barrier to acquisition activity Two EYexperts give their views on the results
What are your thoughts on the top 10
SK Itrsquos a varied list I wasnrsquot surprised by the
variation in there as there has been no over-
riding theme driving the market I also wasnrsquot
surprised by the three Japanese companies
CH I am a little surprised that there were
two UK-based businesses but not so much by
the Japanese ones I think we are seeing the
beginning of a huge outflow of capital from
Japan There arenrsquot enough good-quality
businesses in Japan to invest in for growth
Will tech firms continue to be as active
SK I think tech will be one of the more
active sectors maybe not with headline
deals but more mid-sized acquisitions Itrsquos
driven by rapid change in the sector such as
the evolution to cloud big data and mobile
applications There is a lot of disruption in
the sector and companies are placing a wide
array of bets to solidify their position
CH They will continue to acquire
high-quality services that they donrsquot have
acquiring in lieu of in-house RampD Butfor the bulk of what they need to do to
grow their businesses which is customer
acquisition and growing share of spend
they will continue to do that organically
What drives firms to be so acquisitive
CH First a number of them will need to
infill services that they cannot readily build
internally IT companies in particular need
to buy services that consumers will findattractive The second reason is that some
of these deals have been defensive mdash beating
competitors by building market share Finally
a number of these organizations have capital
and need to deploy it in new markets
SK Itrsquos hard to find a single theme A lot
of these are simply unique opportunistic
companies in search of growth In the early
portion of the last five years there were
more consolidating deals to capture cost
efficiencies But as we move forward deals
are more about access to new marketsproducts and trying to control supply chains
Which sectors will be most acquisitive
over the next 12 months
SK If you look at our most recent CCB
I think sectors standing out are automotive
life sciences technology and oil and gas
CH Therersquos also likely to be some big deals
in sectors such as defense In mining therersquos
lots for sale but few buyers The volume
will be seen in health carelife sciences and
business services Within all sectors demandfor acquisitions that enable growth will be
the highest
Which countries will be most acquisitive
in the next 12 months
SK In terms of outbound deals Japanese
companies are cash rich and looking for
opportunities to deploy capital Chinese
and US companies will also be active These
companies will look increasingly to emergingmarkets and not just the BRICs but places
like Indonesia Africa and Colombia
CH I agree The Japanese will continue to
acquire looking toward the more developed
part of the Eurozone There will be more
acquisitions out of China it will be looking fo
high-quality assets to diversify away from th
Chinese mainland The other big area is the
US I believe that their businesses will move
capital from Europe to the Americas
After a slow start to 2013 what willkickstart the MampA market
CH I do think wersquoll see an uptick and will be
quite surprised by it Confidence is returning
because the imminent disasters feared from
the fiscal cliff the collapse of the Eurozone
and the issues with Cyprus have not come
to pass Available capital on balance sheets
and the debt available to those with the righ
credit rating will create the impetus
SK I expect some small improvements in
the second half of the year Companies have
cash and access to credit However I donrsquotsee one major event that will spark the
market Corporates are still concerned with
making mistakes but confidence will return
gradually as they get more comfortable
that there wonrsquot be a catastrophic event
That said I think this market offers a great
window of opportunity
For further insight please email
editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
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In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
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extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
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2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1444
Making themarketSAP CFO Werner Brandttells Capital Insights howsmart MampA innovativethinking and a clear capitalagenda have helped thecompany to expand itsposition as a global leader
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1544
W hen it comes to growing
a business in the ultra-
competitive technology
market companies that
want to succeed need to focus on the future
and then deliver it now
The sector is developing at a rapid rate
Global spending on information technology
(IT) products and services will grow 41 this
year to US$38t according to analyst firm
Gartner Only forward-thinking corporates
with a clear strategy will reap the rewards
This is borne out in a report from late2012 by research group International Data
Corporation which predicted that from
2013 through to 2020 technologies built
on mobile computing cloud services social
networking and big data analytics would drive
around 90 of all the growth in the IT market
This statistic highlights what Germanyrsquos
SAP the biggest technology company in
Europe and the worldrsquos largest vendor of
business applications decided to do some
years ago ldquoSAPrsquos success mdash 13 quarters
of double-digit growth in a row mdash is based
on the strategy that we laid out in 2010rdquosays CFO Werner Brandt ldquoIn addition to our
core business of applications and analytics
we chose to focus on three major areas
which will help us to double our addressable
market from US$100b to over US$200b by
2015 These areas are in-memory database
technology mobile and the cloudrdquo
Strategic moves into these three
categories alongside the continued focus
on the core businesses have helped SAP to
become one of the most valuable companies on the German
DAX index And itrsquos the only European name in the top 10
global high-tech businesses ldquoNow we are number nine but
our ambition is to rise higher in the marketrdquo says Brandt
SAP risingGrowth is the guiding principle at SAP and it is the priority
for the CFO when it comes to allocating capital ldquoAt SAP we
generate a very strong cash flowrdquo says Brandt ldquoAnd we use
cash for acquisitions to support the implementation of our
strategy The second allocation is for paying dividends to our
shareholders and the third usage is share buyback But in
the first instance we use cash to grow the businessrdquoSAPrsquos growth story is based around a mixture of a strong
MampA strategy and maximizing the potential of its existing
products in its five key market categories mdash applications
analytics cloud mobile and database technologies
In terms of organic growth the key weapon in SAPrsquos
arsenal is HANA a database evolving
into an application platform that provides
information on a real-time basis and
can analyze massive quantities of data
10000 times faster than traditional
databases It is the fastest-growing
product in the companyrsquos history
ldquoTo the end of Q1 2013 we haveaccumulated HANA revenue of euro640m (US$856m)rdquo
he says ldquoAnd through the huge potential of application
data being analyzed at high speed there will be a paradigm
shift for enterprise intelligence and an opportunity for
far greater growthrdquo
HANA is now being used by more than 1500 corporate
customers around the world in all industries ranging from
financial services to sports For example in February the
US National Basketball Association (NBA) announced that it
would be using HANA software to give fans unprecedented
access to nearly 70 years of statistical data HANA was
chosen by the NBA due to its speed flexibility and ability to
allow unlimited searches unlike more conventional products
ldquoHANA is one of our key organic growth drivers We need tostay focused and do everything we can to position HANA in the
right way so that it is adopted by all our customersrdquo he says
While HANA is driving organic growth SAP has made
some bold MampA moves in key areas of the business such as
cloud computing and mobile technology
High up in the cloudsThe cloud has long been seen as fundamental to the future
of the industry Indeed the cloud services market is forecast
to grow 185 this year to US$131b worldwide according
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 1
Preserving
Investing
Optimizing
Raising
We use cash foracquisitions to supportthe implementationof our strategy
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
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In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
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extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1644
to Gartner SAP first
entered the market
with a homegrown
product some years
ago ldquoWe initially focused on a complete
solution in the cloud via a product calledBusiness by Design However we learned
that the cloud market was not ready for such
a comprehensive approachrdquo says the CFO
ldquoSo we decided that we would invest via the
acquisition of more focused cloud solutionsrdquo
SAP bought the cloud software company
SuccessFactors in February 2012 for
US$34b and followed this up in October
2012 with the acquisition of business-to-
business trading network Ariba for US$43b
ldquoIn the cloud business these acquisitions
were bold But today we are number two in
the market and closing the gap to numberone For this year we already expect total
cloud revenue to approach US$13b We are
among the fastest-growing cloud companies
worldwiderdquo says Brandt
These acquisitions took SAPrsquos cloud
business to another level and meant it could
provide a uniquely broad offering ldquoWe are
driving the adoption of the cloud holistically
while other cloud players focus on specific
products for individual lines of businessrdquo he
says ldquoWe have offerings around all business
aspects whether related to money people
suppliers or customers and in addition we
provide a full suite in the cloud Our complete offering and
the seamless integration into on-premise solutions make us
unique and provide triple-digit growthrdquo
SAP used the same targeted approach in the mobile
space In May 2010 it acquired the mobile software provider
Sybase for US$58b ldquoIt was clear that the world was going
mobile and we had to push ourselves into that business
Therefore we bought a company that was a leader in mobilerdquo
says Brandt ldquoSybase also had great database technology
experience which fitted perfectly into HANArsquos organic
development and added significant value for usrdquo
SAP is not just making big money moves such as the
SuccessFactors and Sybase deals It is also looking at smallertuck-in acquisitions such as online ticket provider Ticket-Web
which it bought in January and insurance software provider
Camilion purchased in May to complete the portfolio
Target practiceHowever given that many of SAPrsquos acquisitions were not
on the market how does SAP target these companies
ldquoWe look to acquire when we see a business that will give
us the chance to accelerate our growth strategy in our five
market categoriesrdquo says Brandt ldquoAnd more often than not
if you want to do this you have to get the number one in a
given industry mdash and these are normally not for sale
ldquoFor example we aimed to be a leader in the cloud sowe bought SuccessFactors which was and is the leader in
human capital management [HCM] the fastest-growing cloud
segment SuccessFactors really brought the cloud DNA to
SAP and today we have 29m users using our cloud HCM
solutions Then later we bought Ariba because it was number
one in supplier relationship management and had the biggest
enterprise network in the world for business Ariba manages
a transaction volume of nearly US$500b each yearrdquo
In addition to both companiesrsquo fast-growing status Brandt
outlines two other key factors in the acquisition process ldquoYou
have to ensure that you get a company that has the right
cultural fit and which will accelerate the implementation of
your strategyrdquo he says
1 9 7 2 1 9 8 81 9 8 6 1 9 9 0
SAP becomes a publicly traded
company International subsidiaries open
in Denmark Sweden Italy and the US
SAP opens its first
international subsidiary
in Austria
Company started under the name SAP Systemanalyse
und Programmentwicklung (System Analysis and
Program Development)
SAP acquires a 50 holding in German
software company Steeb and takes
over software firm CAS outright
copy P a u l H e a r t f e l d
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1744
In some cases these companies are
already working with SAP In the ever-
evolving technology industry in particular
itrsquos often worthwhile keeping an eye on
smaller partners who have industry-specific
knowledge This helps both partners to grow
and heads off potential future rivalries
ldquoIn our industry we are working in
an eco-system comprising thousands of
partners These include hardware technology
and implementation partners Sometimes
the solutions provided by our partners
become so attractive to our customers thatwe decide to buy these companies and build
up a new business This was the case with
Camilionrdquo says Brandt
Getting togetherA deal whether transformational or tuck-in
can be judged both by figures mdash turnover
and margin mdash and by the success of the
post-merger integration (PMI) As Brandt
puts it ldquoIf you invest almost US$8b in two
companies then you have to ensure that you
get the integration rightrdquo
For larger acquisitions such asSuccessFactors Ariba or Sybase SAP uses
a bespoke PMI model ldquoIf you look at our
history of integrating companiesrdquo says
Brandt ldquowe always use the tailor-made
approach to effectively integrate these
acquired companiesrdquo
In practice this means that SAP
approaches different acquisitions from very
different angles according to the CFO
ldquoWith the Sybase acquisition we had
acquired a business that was new to us So
we decided to bring together only the market
activities of both companies in order to
capture the potential growth
and combine the solution
offeringrdquo he says ldquoWe kept
the rest separate and then
after two years having learnt
about the database business
we integrated Sybase fully
from a development and
back-office perspectiverdquo
With Business Objects
a business intelligence
software company that
SAP acquired in 2008 forUS$48b the company used
another integration model
ldquoWhile Sybase was more
a partial integration over
time with Business Objects
we had bought a company
operating in the same field
We were blending the power
of our applications with
analytical applications so
we decided to fully integrate
right from the beginning
This also helped increaseefficiencyrdquo says Brandt
For the cloud
businesses SAP used yet
another approach which
the CFO refers to as a
ldquoreverse integrationrdquo In
this case the company took
its existing cloud business
and integrated it with the
acquired SuccessFactors
business to create a new
SAP cloud unit Brandt feels
that this approach has been
1 9 9 1 1 99 4 1 9 9 4 1 9 9 8
SAP acquires
a 52 stake in
DACOS Software
SAP is listed on th
New York Stoc
Exchang
SAP concludes a cooperative
agreement with the largest Russian
software company ZPS
SAPrsquos global expansion continues
as it opens its 19th international
subsidiary in Mexico
Lessons learned
1
24567 8
3
Werner Brandt explains SAPrsquos
tenets for successful growth
When it comes to organic growth you need
to stay focused on the product or service and
maximize its opportunities
Offer a complete product and services portfolio
The combination of five different market categories
is what makes SAP different from its competitors
Keep an eye on smaller partners who have an
attractive offering They can help the larger partner
to grow and head off potential future rivalries
With acquisitions always look for companies that
accelerate the implementation of your strategy and
have a good cultural fit
Ensure that you have a tailor-made integration
scenario for each acquisition and that each shares
one objective to capture top-line growth
When integrating companies ensure thatthe innovation capability of the target company
is preserved
When investing in a country build tight links with
that country SAP is not just there to sell but to
co-innovate to train people and bring them closer to IT
Wherever possible companies need to make
the market rather than react to what is going
on within it
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1844
extremely successful ldquoAfter you acquire abusiness what you normally see is a dip in
revenue for the acquired companyrdquo he says
ldquoBut if you look at SuccessFactors we grew
in triple digits from the first quarter on The
same holds true for Aribardquo
When it comes to smaller acquisitions
such as Camilion and Ticket-Web SAP has
a more standardized integration concept
ldquoFrom a back-office perspective it takes us
60 to 90 days maximum to fully integrate
and we also create a clear combination
from a go-to-market and a development
perspectiverdquo says BrandtWhy the difference between integration
models According to the CFO itrsquos a simple
matter of size and complexity
ldquoWith smaller companies we
usually buy a piece of technology
that we want to bring into the
market or a small solution that
helps us to accelerate in a given
environment or within a given
industry There is no need to
keep it separaterdquo he says
Acquisitions of any size have
a number of risks Yet Brandt
1 9 9 9 20052003 2007
SAP opens its ninth development
location outside Walldorf mdash in China
SAP announces a series of acquisitions
including strategy management provider Pilot
Software Yusa Wicom and MaXware
SAP invests nearly 15 of the yearrsquos
euro51b (US$68b) in revenue into
research and development
SAP buys several smaller companies including
retail providers Triversity and Khimetrics
feels that SAPrsquos bespoke approach helps to mitigate two key
post-merger issues mdash staff retention and innovation leakage
from the acquired company
ldquoThe first objective of an acquisition is to realize the
top-line synergies We do not buy for efficiency on the
bottom line we buy to grow And itrsquos very important that
you do everything to ensure that the growth of the acquired
company is not diminished This has a lot to do with people
The retention aspect is a very important onerdquo he says
ldquoOn the development side you have to ensure that the
innovation power within the given company is preserved
that it can develop on its own and is not diminished by the
big development organization that is SAP This is one reasonwhy we did the reverse integration of our cloud business into
SuccessFactors and then built the new SAP cloud businessrdquo
Get involvedThe company is not only looking to grow in its mature markets
such as Germany and the US it is also seeking expansion
across emerging markets in particular China Brazil and the
Middle East and North Africa (MENA) region And just as it
does with acquisitions and integration SAP takes a holistic
approach to its regional focus
ldquoIf we look at China we have more than 4000
employees there mdash 2000 of which are developers Itrsquos
not just a country where we want to sell software butalso a country where we have a huge and well-accepted
development organizationrdquo he says ldquoWe decided in 2011
that we would invest heavily in China mdash US$2b until 2015
We have increased our presence recently by hiring more than
1000 people mdash two-thirds on the sales side and one-third on
development We also decided to move our head of global
customer support to Beijingrdquo
This idea of becoming fully involved in a region to
maximize growth opportunities equally extends to both Brazil
and MENA ldquoIn Brazil four years ago we decided to take the
same approach of not only selling but also developingrdquo says
Brandt ldquoThis started with a development center for Latin
America in Satildeo Leopoldo We have about 500 people there
Being CFOWerner Brandt discusses
how his role works in SAP
There are different shades betweenthe roles of the CFO There is the
business partner role and there is the
stewardship role The business partner role helps the
company to grow and ensures that all the processes are
set up in a way that constantly improves efficiency
The stewardship role ensures that the company
fulfils all of its obligations from a governance
perspective mdash be that related to financial reporting or
adherence to business codes of conduct and compliance
copy S
A P A G
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 1944
2008 2010 2 0 1 2 2 01 2
SAP announces plans to buy Sybase for US$58b
Software revenues of euro15b (US$2b) in Q4 helps
SAP to its best quarter in history
SAP acquires clou
software provide
Ariba for US$45
SAP completes the acquisition
of Business Objects
SAP acquires cloud
application provider
SuccessFactors
and are doubling our capacity by setting
up a second facility This is an area that
has one of the most prominent universities
in Brazil We are attached to this university
and can attract young talent to SAPrdquo
In MENA SAP has taken a similar
approach ldquoWe have invested in training
and development centers expanded our
customer base and hired young professionals
We have done a lot in order to capture growth
in these countriesrdquo he says
Saving the dayWhile deals get the headlines and moves to
exotic emerging locations provide a level of
pioneering glamor to a business they could
not happen without the work that goes on
behind the scenes improving efficiency and
working capital management
In terms of enhancing efficiency SAP has
invested heavily in its shared service center
(SSC) infrastructure Finance transactions
are managed out of four service centers in
EMEA the Americas and Asia Pacific Many
of the companyrsquos transactional processes
are integrated into a SSC already and SAP ismoving more and more processes on top of
purchase-to-pay order-to-cash and record-to-
report to SSCs
When it comes to the day-to-day level of
improving working capital the CFO ensures
that the two complementary angles mdash day
sales outstanding (DSO) and day payments
outstanding (DPO) mdash are very closely
monitored in order to optimize cash flow to
fund acquisitions and further growth
ldquoWe have reduced DSO from 70 to 60
days over the last four years and have a
clear focus on being close to the payment
behavior of our customersrdquo says
Brandt ldquoWe use a new HANA-
based solution that enables each
manager to look into receivables
around the world via their
mobile devices
ldquoThis starts with the global
view and then you can dig down
into a country and really go
into a specific account to seehow the customerrsquos payment
behavior developed over time
Our internal solutions help our people understand and solve
disputes with customers quickly so they can payrdquo
On the payables side Brandt feels that the best way to
optimize the process is to look at a better way of collaborating
with suppliers This helps to get the best terms and conditions
after which he feels the company needs to pay on the agreed
day ldquoI donrsquot think itrsquos the right approach not to pay on time in
order to get better cash flowrdquo he says ldquoItrsquos better to discuss
and see that you have the optimal financial supply chain in
place in order to maximize your cash flowrdquo
Unique combinationSAPrsquos success story is a lesson in how a strong acquisition
and regional strategy a pinpoint focus on maximizing the
potential of existing products and services and solid capital
management can lead to substantial growth Yet Werner
Brandt feels that there is one final factor that gives SAP
an edge over its competitors a complete offering with
customers having mobile access to all solutions no matter
whether they are deployed on premise or in the cloud
ldquoIf you look at what we offer and the combination of the
five different market categories this makes SAP uniquerdquo
says Brandt ldquoI would argue that we make the market
instead of reacting to itrdquo
The CFO
Werner Brandt
Age 59
Appointed CFO at SAP 2001
Educated University of Nuremberg-Erlangen Technical University of
Darmstadt
Previous positions Prior to becoming CFO atSAP Werner was the CFO and Labor Director
of German-American health care companyFresenius Medical Care AG From 1992 to 1999
he was VP of European operations at health carecompany Baxter Deutschland responsible for its
financial operations in Europe
SAPFounded 1972
Employees 65000
Countries 130
Market capitalization US$74b(as of H1 2013)
copy SAP AG Reto Klar
1
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
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What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2044
together
Put the pieces Deals that look goodon the surface can oftenfall apart due to poorintegration processesHow can corporatesovercome this challenge
and make the pieces t
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2144
Key insightsbull Early planning is
vital for the successof a post-merger
integration teamsneed to be set up early
preferably during the
due diligence phase
bull Companies needto work out quickly
whether the objectiveof the deal is a full or
partial integration ofthe two businesses
bull Due diligence shouldgo beyond the financial
legal and regulatoryissues and into the
organizational andcultural areas
bull One key to success is
communication withall stakeholders
especially managementand employees
bull Integration is not ashort-term activity
but a process thatcontinues over a long
period and mustbe managed actively
and monitored
The post-merger integration (PMI) phase of an MampA
deal will never grab the headlines like the deal itself
Yet in many ways successful PMI of one company
into another is the only way to evaluate a deal
Bad integration is certainly seen as a key reason for a deal
failing A 2011 survey by insurance consultants Aon Hewitt
revealed that a longer than anticipated integration process
(41 of those surveyed) and cultural integration issues (33)were identified by organizations as the top two reasons for
deal failure So how can corporates overcome these hurdles
Early birdsEYrsquos EMEIA Operational Transaction Services Leader Max
Habeck strongly believes that early preparation is the key for
an effective PMI process ldquoBetter planning leads to successrdquo
he says ldquoSuccess is based on having a good understanding
of what you are buying and why you are buying and on
effective operational due diligence That should shape
realistic expectations of synergies Early mistakes here can
create big problems later You need clarity on the degree of
integration you are seeking You need to clearly match top-down and bottom-up viewsrdquo
Schneider Electric the multinational electricity
management company that has pulled off a string of
successful acquisitions in the past decade mdash including the
purchase of full ownership of Russiarsquos Electroshield TM
Samara in March this year mdash has made early planning a key
part of the integration process
ldquoThe integration model to be used is something we
discuss at a very early stage when we consider acquiring a
companyrdquo says Cedric Collange Schneider Electricrsquos Senior
Vice President for Mergers and Acquisitions ldquoIf you look at
this at the acquisition stage it is too laterdquo
German chemical company BASF has experience as a
successful integrator One year after its December 2010acquisition of nutritional supplier Cognis Samy Jandali Vice
President of Nutrition and Health in North America said
he had been ldquovery impressedrdquo with the integration of the
two firmsrsquo differing expertise areas This was backed up by
2011rsquos Q1 figures which showed BASFrsquos reported sales of
performance products up 39 which included a significant
contribution from Cognis It was fully integrated by 2012
Dr Wolf-Dieter Starp BASFrsquos Head of Global MampA says
that the company benefits from thorough preparation ldquoFor
successful PMI planning for the integration has to
start during the due diligence phaserdquo
he explains ldquoCritical issues are identified
through a number of analyses using
external consultants where necessary
These include a wide variety of issues such
as the complexity of the business the age
and condition of production plants and
taxes Both cost and growth synergies areidentified in the due diligence phase mdash and
then regularly measured to see if they are
being achieved in the integration phaserdquo
Having the correct teams and
procedures in place early on in the lifespan
of an acquistion isnrsquot the only factor that
determines a smooth transaction process
As a company with extensive experience
of acquisitions BASF has learnt that
itrsquos beneficial to announce the targetrsquos
organizational structure and management
as soon as possible as well
ldquoTimely and regular communication iscrucialrdquo says Starp ldquoThe new and current
employees need to know where the journey
is going and what the next steps arerdquo
Samy Walleyo EYrsquos Operational
Transaction Services Markets Leader for
Southern Germany Switzerland and Austria
agrees ldquoCompanies need to plan in advance
yet often they set up integration teams just
a couple of weeks before deals close That is
far too laterdquo he says
Tailoring integrationAs well as starting early in the process
companies need to work out quicklywhether the objective of the deal is a full or
partial integration of the two businesses
ldquoThe level of integration depends on your
motivationrdquo says Habeck ldquoIf you are buying
innovation and skills it may be unwise to
integrate those into a large corporationrdquo
Therefore large corporates should
consider whether giving the company some
autonomy rather than fully assimilating it
into the business will yield better results
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2244
What do you believe are the principal
factors needed to ensure successful
post-merger integration
Source NetjetsMergermarketDoing the Deal 2013
Having a clear andactionable post-mergerintegration plan 46
Understandingthe strategic fit
of the target withinyour business 65 Cultural understanding 46
Retainingtalentedstaff 54
60of respondents
identified culture as
a key challenge during
the integration process
according to a survey
by Mercer
The key is to communicatewith stakeholdersespecially managementand employees
Cedric Collange Senior VP MampA Schneider Electric
Schneider Electric has three types of integration model
according to Collange ldquoThese are full integration light
integration and no integration mdash where the competencies in
the acquired company are very different from our own and we
want to learn from them rather than to integraterdquo he says
In the ldquono integrationrdquo model Collange explains there
will still be back-office integration bringing the acquired
company into Schneiderrsquos financial systems and reporting
An example of this was the acquisition of Brazilian
low-voltage product producer Steck in 2011 Steck-
manufactured products were at a lower end of the market
than Schneider Therefore Steck was set up as a separate
brand with a separate structure ldquoThere is some integrationof the back office with reporting and financial controls but
otherwise it was not suitable for integrationrdquo says Collange
For the ldquolight integration modelrdquo Collange explains
that the company needs time to understand the acquired
business and learn its culture ldquoThis means that we might
integrate after one or two years
depending on what we findrdquo
he says ldquoIn these cases you
have to make sure that the key
people are comfortable before
you push for full integration It
is more important to keep them
than to achieve full integrationWe would rather wait before we
fully integrate to make sure we
understand the differences in the acquired companyrdquo
Internet giant Yahoo also took this tailored approach in
its US$11b acquisition of social networking website Tumblr
in May 2013 In its media release the company said that
ldquoper our promise not to screw uprdquo Tumblr ldquowill continue
to be defined and developed separatelyrdquo under current CEO
David Karprsquos leadership
However for creating fiscal synergies other issues
must be considered says Habeck ldquoIf you are seeking to
lower your cost base or extend productive capacity then
questions have to be asked whether the existing operations
are scalable about regulatory constraints the practicalchallenges involved in integration and the level of investment
that will be requiredrdquo
Companies must also consider their IT systems
ldquoIT compatibility is a big question mark in some executivesrsquo
mindsrdquo he adds ldquoItrsquos not just about pulling levers to change
systemsrdquo Indeed according to EYrsquos IT as a driver of MampA
success survey only 21 of corporates and 11 of private
equity firms always undertake IT due diligence prior to
signing deals Yet IT incompatibility can destroy the
prospect of achieving synergies
Capital of cultureWalleyo says that the importance of
thorough due diligence which goes beyond
the financial legal and regulatory issues
and into the organizational and cultural
areas cannot be overestimated ldquoItrsquos not
only about culture between countries
but also between companies and within
countries for example between north and
south Italyrdquo he explains
This is borne out in the 2011 study
from Aon Hewitt It found that over 70 of
corporates believed that the top impactsof unsuccessful cultural integration include
decreased employee engagement loss of
key talent and reduced productivity
ldquoThere is no magic recipe for due
diligence there will always be something
that takes you by
surpriserdquo says
Collange ldquoThe
due diligence
must identify the
key employees
especially if we
acquire a companyfor its core
competencies
rather than for other reasons such as its
products or market sharerdquo
The issue of culture as a challenge
to PMI success is thrown into relief by
the 2012 Asia Pacific cross-border post-
merger integration survey from human
resources consultancy Mercer Almost 60
of respondents identified culture as a key
challenge during integration yet many
companiesrsquo integration plans lacked the level
of detail required to deal with the issue
ldquoMany mergers fail because companiesfocus on strategic and financial fits but
neglect the issues such as cultural and
operational fitsrdquo says Dr Mike Teng author
of the book Post Merger Integration
Improving Shareholdersrsquo Value After a
Merger ldquoTo deal with this formulate a
vision and strategy on the direction the
merger is going in and how the deal fits
as well as the clear milestones A
pre-merger process that targets the
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2344
James M Loree of Stanley Blackamp Decker explains the companyrsquos
successful integration strategy
Viewpoint Early and opencommunicationwith key stakeholders 46
Building goodrelationships withmanagement 42
Our integration capabilities enable us to pursue value-creating MampA
with confidence and conviction We have developed a rigorous
comprehensive process that we apply to all transactions
Effective planning is critical factor We spend time early on generally
before a deal closes to create the teams and plans needed to capture
synergies and implement organizational changes This typically begins
during our due diligence phase with a framework in place when a deal is
signed Plans are detailed and developed before closing where practicable
Our integration focuses on three main areas value people andprocess We define and analyze what the value-creation drivers are and
organize our process
around them Our focus on
people is all important itrsquos
critical to provide clarity on
organization structure and
roles and responsibilities
to reduce anxiety among
an understandably stressed
workforce Finally we use a
process that our employees
have seen before keeping
everyone focusedWe typically form an integration management office comprised of
corporates and business leaders from both businesses plus a steering
committee made up of senior management to help make decisions quickly
allocate resources and remove barriers to success
Our integration process has proven successful over time mdash such as our
$US4b buy of Black amp Decker in 2010 We exceeded synergy targets and
met all committed franchise targets on or ahead of schedule due in large
part to our integration process
James M Loree is President and Chief Operating Ofcer
Stanley Black amp Decker
12
3
45
ShutterstockEY
potential partner with the right capabilities should also
be established Rigorously plan and build trust with the
interested partnerrdquo
Merger managementA successful integration requires work on both sides
Donrsquot just expect the acquired firm to slot in With so many
possible pitfalls in PMI ensuring that it runs smoothly
is a tricky business C-level executives should bear the
following five tenets in mind when it comes to bringing
two companies together
Sharing is caring ldquoYou need to move people from theacquired organization into the acquiring organization not
just the other wayrdquo says Yves Doz Emeritus Professor of
Strategic Management at INSEAD ldquoMake sure the burdens
of adjustment are shared If one side has to travel a long
way and the other side just sits and waits thatrsquos an unfair
burden of adjustment This can be very dysfunctionalrdquo
Expert help ldquoItrsquos about solid project management and
having the right people available to do itrdquo says Habeck
ldquoThat is one of the issues we see most of the timerdquo He adds
that acquisitions shouldnrsquot always be seen as a merger
ldquoTherersquos this romantic view of the meeting of two mindsrdquo
he says ldquoBut sometimes itrsquos just about access to an RampDpipeline or pulling more sales through an existing asset baserdquo
Keep talking ldquoThe key to success is communication with
all stakeholders especially management and employeesrdquo
says Collange ldquoWe are engaged in a large acquisition
and integration of Electroshield and TM Samara which
has 10000 employees in Russia and Uzbekistan all of
whom need to be informed regularly We may be over-
communicating to them but that is never a mistakerdquo
Donrsquot forget the day-to-day ldquoWhat we see very often
is that the acquirer is very focused on the targetrdquo says
Walleyo ldquoSometimes they forget their own people and they
donrsquot tell them what to expect You need these resourcestheir enthusiasm and their buy-in You need a project team
You need all the key employees for their expertise But
these key employees are also the ones who you need for the
day-to-day operations of the business The distractions for
these key employees can harm the day-to-day businessrdquo
Stay late Integration is not a short-term activity but a
process that continues over a long period that must be
actively managed and monitored Starp explains ldquoBASF
reviews the success of integrations over many years Short-
term success factors are for example harmonizing IT systems withoutdisturbing customer relations Mid-term success can be measured if key
personnel remain with BASF and the identified synergies are achieved
An extensive documentation and analysis makes it possible to learn from
each integration episode and thus do the next integration even betterrdquo
Doing the deal may well be the ldquoglamorousrdquo side of MampA but
successful integration is all about hard work So start early plan
meticulously and stay with it
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2444
Capital Insights from the Transaction Advisory Services practice at EY
India IncKey insightsbull A young population
and a growing middle
class means that Indiais ripe for investment
opportunity
bull Restrictions on foreign
ownership apply incertain sectors such
as financial servicesaviation and retail In
these cases corporatesneed to work with
established partners
bull State investmentboards can often be a
more useful source ofinformation than their
national equivalent
bull Valuations can be
relatively highBidders need to build
strong relationshipswith targets
bull Bidders should
consider building aninitial minority stake
and increase theshareholding over time
bull In terms of outboundMampA Indian companies
are looking at naturalresources technology
and marketable brandsIndian buyers generally
prefer one-to-one dealsrather than auctions
and to take 100ownership instead
of stake investments
Indiarsquos economy and population are growingCapital Insights explores how to investeffectively in this rapidly growing market
Emerging economies attract intense scrutinywhenever their GDP figures are forecast or
published These countries are after all the
motors of the new world economic order
something heightened by the current predicament of the
developed markets
So when Indiarsquos Central Statistical Organization estimated
that growth for 2012 would come in at around 5 compared
with more than 6 a year earlier there was concern that the
countryrsquos economy was running out of steam
But looking behind Indiarsquos GDP figures reveals a much
more optimistic picture Consumer demand is rising
According to figures published by investment bank Morgan
Stanley food and beverage sales rose by more than 21 in
2012 while home and personal care products rose by 17The success of Indiarsquos economy has been driving cross-
border MampA In 2012 there were 275 inbound deals valued
at US$37b an increase of 104 (volume) and 213
(value) on the previous year
Over the last few months a string of major foreign
companies have announced plans to invest in Indian
businesses Prominent acquirers include Diageo
GlaxoSmithKline (GSK) and Unilever from the UK US health
care company Mylan Japanrsquos Sony (who announced in
March that it aims to triple sales of its mobile phones in
India to INR35b (US$614m)) by March2014 as well the Qatar Foundation and
Etihad Airlines from the Middle East
The target sectors range from consumer
goods and health care products through
to the airline industry telecoms and
increasingly multimedia
Indian summerAccording to Ajay Arora Leader of EYrsquos
MampA team in India inbound transactions
traditionally account for well over half of
all cross-border mergers and acquisitions
activity in India The appetite for deals is
driven by a number of factors not least therelative buoyancy of Indiarsquos economy
ldquoWe are seeing a lot of companies
seeking to establish a base here to
capitalize on strong domestic demandrdquo
he says ldquoThatrsquos a trend across a range
of sectors including consumer products
pharmaceuticals and manufacturingrdquo
Angad Paul CEO of UK steel and
engineering firm Caparo agrees The
company entered a joint venture (JV)
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
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Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
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wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2544
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
with Indian automotive company MarutiSuzuki and has since expanded employing
7000 people in 26 facilities According to
Paul internal demand is huge ldquoIndia needs
everything mdash from infrastructure through to
the consumer marketrdquo
As Gunjan Bagla author of Doing
Business in 21st Century India points out
the appeal of India to overseas investors is
underpinned by demographics
ldquoIndiarsquos demographic is largely quite
young mdash half the country is younger than
25 mdash and the middle class is growing very
rapidlyrdquo he says ldquoAny sector or industrythat links to this growth over the next 20
years is ripe with opportunityrdquo
Figures from EYrsquos 2013 report Hitting
the sweet spot the growth of the middle
class in emerging markets bear this out
It projects that Indiarsquos middle class will reach
200m by 2020 compared with the current
figure of 50m
That desire to tap into the demand
created by an increasingly wealthy Indian
population can clearly be seen in a recent
raft of acquisitions and stake building UK
drinks group Diageorsquos US$34b acquisition
(534 stake) of United Spirits (USL) in Aprilis a prime example
When the company announced the plan
late last year Diageorsquos then-CEO Paul Walsh
said ldquoUSL is a very successful business
Itrsquos well positioned with its range of brands
across categories and price points to
capitalize on the very strong growth
trends that we see in India And Diageo
can now bring its skills and capabilities to
that marketrdquo
Experience countsWalshrsquos comments highlight the benefits of acquiring an
Indian company with an established position in its home
market ldquoFor an overseas company an acquisition offers
access to well-established brands a distribution network
and contacts in the marketplacerdquo says Arora ldquoThat has
a lot of valuerdquo
According to Adrian Mutton CEO of India market
entry consultancy Sannam S4 overseas companiesrsquo
push into the Indian market is both reactive and proactive
ldquoIn some cases businesses are seeing revenues fall in
their domestic or traditional markets and are looking
to India to make up the shortfall However we also seea lot of companies who are doing well at home but see
opportunities to grow their revenues on the back of strong
demand in Indiardquo
There are other factors at work too Although much
of Indiarsquos growth has been based on
the strength of its service economy
its potential as a manufacturing center
should not be underestimated
ldquoAs manufacturing costs rise in
China we believe that India presents a
terrific alternative for locating factoriesrdquo
says Bagla ldquoSo any company that is
concerned about the rising yuan andneeds Asian manufacturing to serve should consider buying
a small or mid-sized company in India that has permits
workers and good access to portsrdquo
This is borne out by the results of EYrsquos 2012 India
attractiveness survey in which 45 of investors cite the
availability of low-cost labor and inexpensive manufacturing
capabilities as a key attraction for their business
Mutton agrees adding ldquoIndia also offers not only an
educated labor force but also an increasingly deep well of
product development expertiserdquo
For instance when US healthcare products company
Mylan announced plans to buy Indiarsquos Agila Specialties for
US$18b in March this year the rationale behind the deal
was couched in terms of a broader portfolio of ldquoinjectiblesrdquoproducts as well as bigger market share ldquoAgilarsquos product
portfolio and pipeline which is complementary to Mylanrsquos
is the result of best-in-class researchrdquo said Mylan CEO
Heather Bresch ldquoAgila will bring us one of the most
state-of-the-art high-quality manufacturing platforms
in the industryrdquo
As Bresch described it the acquisition was not simply
about increasing revenues and market shares within the
Asia region but part of a strategy to create a global leader
drawing on the Indian companyrsquos products and production
India needs everythingfrom infrastructureinvestment through tothe consumer marketAngad Paul CEO Caparo
44The projected
percentage growth of
Indiarsquos internet protoco
traffic from 2012ndash17
the highest in the world
according to the Cisco
Visual Networking Index
Raising
Investing
C o r b i s L y n s e y A d d a r i o V I I
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2644
Capital Insights from the Transaction Advisory Services practice at EY
Culture clashSeveral years of liberalization has seen India open up
to foreign investment Restrictions still apply in certain
industries mdash notably financial services (only 26 foreign
ownership is allowed in insurance companies) aviation
and multi-brand retailing (49 and 51 foreign ownershiprespectively) mdash but in most other sectors it is now possible
for foreign investors to hold 100 of an Indian company
However there are challenges not least in terms of
Indiarsquos business culture Arguably the first hurdle for
any foreign company seeking to invest in India through
an acquisition is to find a willing seller Indian businesses
tend to be family concerns They are dominated by
entrepreneurs mdash known locally as promoters mdash who have
worked hard to build their companies for the good of
themselves and their families Credit Suissersquos Asian Family
Businesses Report from late 2011 found
that India had the highest percentage
of family businesses in Asia (67) But
according to Arora they are often
reluctant sellers
If the promoter can be persuaded to
sell expectations on the price will typically
be high reflecting not only the current
strength of the Indian economy but also
the promoterrsquos perception of its future
prospects ldquoIndian and European business
owners take a very different approach to the
valuation of their respective companiesrdquosays Prashant Mara Head of the India
Practice at Law Firm Osborne Clarke ldquoIn
India the valuation is based on opportunity
for the future That contrasts with European
valuations which tend to be based on
historic performance and projections for the
next one or two yearsrdquo he says ldquoAnd in a
fast-growing economy the expectation of
rising revenues is naturally pushing seller
expectations ever higherrdquo
IndiaPopulation
12b (2013)
FDI
US$3565b (2012)
GDP
US$19t (2012)
Source CIA World Factbook
World Bank
The lion king
Indian companies are looking
hungrily overseas mdash so what
do targets need to know
Outbound MampA by Indian companies is
arguably more talked about than the more
familiar spectacle of Western companies
investing in emerging markets According
to Mergermarket figures Indian companies
made 72 overseas acquisitions valued
at around US$11b in 2012 up from the
previous yearrsquos total of US$67b
ldquoOne of the themes for outbound
MampA is the acquisition of natural
resourcesrdquo says EYrsquos Ajay Arora ldquowhich
is a trend that reflects the requirements
of a growing and energy-hungry Indian
economyrdquo Indeed last year saw Indian
oil and gas multinational ONGC Videsh
announce a deal to acquire an 84 stakein a ConocoPhilips oilfield in Kazakhstan
Mergermarketrsquos research finds that
natural resources deals accounted for
55 of outbound MampA in 2012 But as
Arora points out Indian companies are
also seeking to acquire customers and
distribution networks in other emerging
markets ldquoThe acquisition of fast-moving
consumer goods (FMCG) companies in
emerging markets has been a themerdquo
he says
Foreign markets have become hugely
important to the growth plans of Indian
FMCG companies For instance earlier this
year it was reported that ICT company
Wiprorsquos consumer products division was
set to earn more than half of its revenues
overseas through a US$500m acquisition
program Overall it is estimated that
foreign sales account for 25ndash40 of
revenues for Indian companies in theconsumer products sector
The third trend is the acquisition of
technology and marketable brands in
Europe and North America According
to Mergermarket data the US and UK
provide a big focus for Indian companies
As Sannam S4 CEO Adrian Mutton
points out Indian investment has the
potential to transform struggling brands
C o r b i s L u c a T e t t o n i
istockPingebat
Top three completed Indian inbound deals since July 2012
Completion Target Buyer Deal value
AUG
2012
Delhi Mumbai
Industrial Corridor
Development Corp
(26 stake)
Government of
Japan Japan Bank
of International
Cooperation
US$45b
JAN
2013
United Spirits
Limited
(534 stake)
Diageo (UK) US$34b
JAN
2013
GSK Consumer
Healthcare
(3184 stake)
GSK (UK) US$14b
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2744
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
Close encountersBidders need to build strong relationships with promoters in
India in order to overcome the pitfalls of reluctant sellers and
high valuations Or to be more precise an overseas buyer
needs to take the time to get to know potential vendors
That is often the prime factor in determining whether a deal
will take place or not ldquoUnderstanding the promoter is the key
to the dealrdquo says Amit Khandelwal National Director and
Leader Transaction Advisory Services EY India ldquoIt is the
promoter who will take the calls and make the decisions and
it is vital to establish a rapportrdquo Establishing a relationship
can take time Khandelwal counsels that foreign firms may
have to be more patient than would be the case if they wereexpanding in Europe and North America
Promoters will understandably seek to protect their own
interests ldquoA key question theyrsquoll be asking is what do I do
and what do my family members dordquo adds Khandelwal
Often they will expect a role that will retain a position
of operational control even if the strategic decisions are
made elsewhere According to Arora the sensitivities of
promoters lend themselves to deal structures that begin
with a significant minority or 51 stake for foreign investors
with the shareholding growing over time based on an agreed
ldquoWhen Tata bought Jaguar Land Rover (JLR) everyone
said the company was overpaying for a struggling brand
What Tata saw was an underinvested business with an
iconic brand that could be marketedrdquo
Tata has been proved right as JLR continues to go
from strength to strength The latest figures show that
during the first four months of 2013 JLR sold around
144000 vehicles mdash a year-on-year increase of 16
Promotion partiesFor vendors seeking to sell to Indian buyers it is once
again hugely important to understand the Indianpromoter Deals can take time to come to fruition
in part because the promoter or decision-maker will
be busy with other things such as other deals disclosures
and so on
Once again patience is required A certain amount of
straight-talking is also appreciated ldquoIndian promoters like
to negotiate on a one-to-one basis They donrsquot like getting
into auction situationsrdquo says Arora ldquoThey also prefer
100 stakesrdquo
Caparo CEO Angad Paul tells CapitalInsights about the challenges that
companies need to overcome in India
India is a sprawling democracy with a lot of diversity and power
at state level For that reason you donrsquot necessarily know what
is around the corner
In a country of Indiarsquos size and complexity of course there are
going to be some challenges Raising debt finance can be difficult The
banking system can be cliquey and in my view it really needs to open
up Interest rates are high because of government efforts to curb
inflation and that is a constraint on growth We are a US$400m
business in India but I think we would be a much bigger business ifinterest rates were lower
If yoursquore planning to take money out of India it is important to
fully understand the tax regime But then again that would be true
of investing anywhere
When it comes to MampA it can be very difficult to buy a business
in India While that may not necessarily be the case for large
multinational corporations small to medium-sized enterprises (SMEs)
should take time to study potential acquisition targets in detail As
an SME tread carefully and always take time to ldquolook under the
hoodrdquo so to speak
If yoursquore starting a
business from scratch
I would recommend findinggood local managers If
yoursquore acquiring an Indian
business it may be better
to do so with a local
partner Businesses with
a long history of working in India while also having strong
governance practices can be a good source for partnerships
The business culture is similar to the EMEA region but it is
extremely important to understand that the parameters
that drive negotiations are different
Itrsquos vital to understand the differences that exist at state level
Companies should go state to state and get a sense of what is
happening and choose a state that makes sense for the business
There is a lot of diversity in regulation and what is available to
businesses from one state to another State investment boards
can often be a more useful source of information than their
national equivalent
In the final analysis while there certainly are challenges these
are outweighed by the opportunities and if you have a quality product
India is wide open for business
Viewpoint
Angad Paul is Chief Executive Ofcer of Caparo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2844
Capital Insights from the Transaction Advisory Services practice at EY
Amtek Auto Group Chairman ArvindDham reflects on going global
The Amtek Auto Group was established in 1987 and we began
by supplying components to Suzuki Motors
In 1994 we made the decision to supply other customers
In 1999 we began to look at ways to grow Amtek from a US$100m to
a US$1b company and we did that by acquisition At the time there was
relatively little MampA activity in India and valuations were quite low
In 2002 we began to look at the possibilities for making acquisitions
in the global environment We identified a US company and that first
deal took four months to negotiate Since then we have made 18 globalacquisitions The latest German company Neumayer Tekfor which
makes steel parts for the automotive industry was completed in May
As a company we are now in a position where 45 of our revenue is
generated outside India
Searching for talent is important Traditionally India has excelled
in service industries and banking but not necessarily manufacturing
where there is something of a talent vacuum
As such the acquisitions wersquove made have been in our own
sector to date The companies we are looking for are those where
we can add value and have
acquirable technology and
strong management
We seek to acquire100 of the target
company For us in
negotiations itrsquos very
important that both sides
put their ldquorulesrdquo on the
table while keeping the negotiating process flexible
and open ended
Our acquisition strategy provides us with a number of different
integration challenges When we make an acquisition we integrate the
overseas managers into the Indian operation We incentivize managers
through bonuses mdash not through equity
There is a lot of interchange between the Indian and global
management We have a 90-day integration plan to tie together
management at every level However we are also respectful of local
management culture
Making overseas acquisitions has been a learning process
particularly on pricing One thing that Indian companies have
traditionally looked for are low valuations mdash Amtek has itself acquired
stressed and distressed companies mdash however over the years wersquove
changed our attitude on valuations
Viewpoint
Arvind Dham is Chairman of the Amtek Auto Group
roadmap as the parties get to know and trust
each other In addition foreign companies
will also seek to raise their holdings as the
importance of the Indian market grows One
example is Unilever which is seeking to raiseits holding in Hindustan Unilever by 22 to
75 Commenting on the deal the Anglo-
Dutch companyrsquos CEO Paul Polman said the
move reflected Indiarsquos status as a ldquostrategic
priorityrdquo for the group as a whole
Indian firms arenrsquot necessarily averse
to European or US ones taking a larger
controlling stake For instance Caparorsquos
Indian operation started as a JV with a niche
in Maruti Suzukirsquos supply chain The normal
structure for such JVs was a three-way
ownership split mdash in this case with Maruti
holding a third the partner holding a thirdand the rest in public hands ldquoThey knew we
were more comfortable with ownershiprdquo
says Paul ldquoIt was on their suggestion that
we took a 75 controlling stakerdquo
If patience is required during the
preliminary negotiations it may also be a
pre-requisite for the due diligence process
ldquoSmall or mid-sized companies in India often
have more complex financial structures that
would be expected in the Westrdquo says Bagla
ldquoMany Western acquirers wish to disentangle
these complexities in conjunction with an
investment or acquisition Tolerance is
needed along with support from advisorswho understand the local marketrdquo
Indiarsquos growing economic importance has
created opportunities for corporates that are
looking to buy and sell And while there are
regulatory and cultural hurdles the current
scale of MampA activity indicates that these
are far from insurmountable
For further insight please email
editorcapitalinsightsinfo
Top three completed Indian outbound deals since July 2012
Completion Target Buyer Deal value
DEC
2012Houghton
International (US)Gulf Oil Corp US$1b
MAR2013
Azeri-Chirag-
Guneshli Oil Field
(272 stake)Baku Tblisi Ceyhan
Pipeline Co (236
stake) (Azerbaijan)
ONGC Videsh US$1b
NOV
2012
Fairmont Hotels
and Resortsrsquo Plaza
Hotel New York
(75 stake) (US)
Sahara India Pariwar US$575m
Source Mergermarket
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 2944
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 2
The PE perspective
Sachin Date
copyPaul Hearte
partnersPositive
Private equity fund investors remain supportive of the asset classbut buyout houses need to work hard to attract their capital
Most of the private equity (PE)
industryrsquos capital providers
its limited partners (LPs)
remain positive about the
industry This is reflected in the recovery
in the amount of capital being committed
to funds According to EYrsquos Global privateequity watch 2013 report PE funds globally
increased in size by 10 in 2012 year on
year to US$256b
This is set to continue A Preqin survey
found 86 of LPs planned to commit either
the same amount of capital or more to PE in
2013 than they did in 2012 An example of
this is The Los Angeles County Employees
Retirement Association which said it would
commit up to US$18b to PE funds in 2013
a 140 increase on 2012rsquos US$737m
This is encouraging as it shows that LPs
feel the industry can deliver good returns
if other asset classes can not Accordingto Cambridge Associates data over the
10-year period to the end of 2012 US PE
funds provided annual net returns of 1406
to LPs with the Dow Jones Small Cap Index
coming in second place at 1098
And LPs expect outperformance to
continue As many as 80 believe that PE
will deliver annual net returns of 11 or more
over the next three to five years according
to the Coller Capital Global private equity
barometer Winter 2012-2013 By contrast
the latest Barclays Equity gilt study expects
equities to hover at 3 to 4 in that period
However LPs are becoming more
discerning in choosing their funds leading
to regional variations in fund-raising While
European LPs remain committed to fundingEuropean managers sentiment about the
region from US investors and some sovereign
wealth funds has cooled EYrsquos Global
private equity watch 2013 report shows
that as a percentage of global numbers
unused capital among general partners
outside the US and European markets has
increased as LPs have looked further afield
for outperformance In 2003 the rest of
the world had just 3 of global PE capital
unused By 2012 this had risen to 15
LPs are concentrating their capital
on PE funds that can demonstrate past
performance a strong strategic directionhave successfully implemented succession
planning and that provide proof of
genuine value creation in the companies
they back Increasingly they are also
seeking co-investment rights to help
boost overall PE returns A Preqin
study from April 2012 found that
43 of LPs were seeking co-investment
rights when committing to funds and
a further 11 were considering this
Environmental social and governance
(ESG) factors are also rising up LPsrsquo
agendas Some funds have established
procedures for managing these issues
devising processes to ensure that sound
environmental practice is accretive to
portfolio companiesrsquo bottom line TheCarlyle Grouprsquos latest annual report
shows that environmental initiatives have
saved or are planning to save portfolio
companies a total of US$7m ESG factors
are important not only to help LPs meet
their socially responsible investing aims
but also in selling companies to corporates
which are focusing on this particular area i
acquisition due diligence
Firms must pay as much attention
to selling as they do to buying to attract
capital This will help them to continue
delivering value to their current investors
and demonstrate to LPs that they have theskills to exit even in difficult markets
LPs are highly supportive of PE and
continue to commit significant capital to
the asset class However it is becoming
clear that there will be winners and losers
And in the future only the best funds will
be the recipients of this capital
Sachin Date is the Private Equity Leader for EMEIAat EY For further insight please emailsachincapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
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The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
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Raising
8142019 Capital Inside
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a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3044
Getty ImagesWestend61
Key insightsbull Companies that are
being left behind in
emerging markets (EMs)need a more targeted
MampA approach
bull Entry into EMs can helpachieve growth and also
defend a companyrsquosdomestic position
bull Screen your locationprecisely Just because
countries such as Indiaand China are on the
rise it does not meanthat they are right for
your business
bull Valuations in EMs aremore complex than in
developed marketsDo the due diligence
establish the weightedcost of capital and
quantify the risks
For corporates with limited scope at home rapid-growthmarkets can boost growth abroad But competition iserce and the need to target effectively is paramount
Taking aim
G rowth figures in emerging economies from
Argentina to Zambia are attracting corporates
from developed economies at a rapid pace
MampA in emerging markets (EMs) has been
on the rise since 2004 as corporates in the West seek to
access this new growth According to data compiled byMergermarket EM MampA deal value came in below US$150b
in 2004 accounting for less than 10 of global MampA
value However by the end of 2012 EM deal value totaled
US$5119b which was more than a fifth of global MampA
value And in EYrsquos latest Capital Confidence Barometer
three of the BRIC countries (China India and Brazil) made
up the top three investment destinations for corporates
The statistics seem clear However the realities of
entering an EM are far more opaque While numerous
corporates have strong EM strategies and profiles many
still hesitate to spend more in developing
economies or enter a new market at all
Even huge players such as Apple have
been tentative about emerging economies
At present all of its stores are in advanced
economies with the exception of ChinaIndeed only 23 of those surveyed in
Clifford Chancersquos 2012 Cross-border MampA
Perspectives on a changing world report
expected to raise MampA spending in high-
growth markets over the next two years
In EMs this means being more targeted
ldquoWorking through a more rational process
would help companies focus on what they
want to pursuerdquo says Harry Nicholson
Transaction Strategy Partner at EY UK
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3144
Investing
Corporates need to ask themselves why they are
entering the market what the optimum location is and
how they can get value for money at a time when valuations
in many EMs are rising rapidly
Growing painsIn Europe this imperative to explore new markets is
strengthened by anemic domestic growth Recent figuresfrom Eurostat show that Eurozone GDP has fallen for six
consecutive quarters up to the first quarter of 2013
ldquoMature markets are going through an unexciting period
of low growth and they are expected to remain like that for
the foreseeable futurerdquo says Nicholson ldquoThere is a strategic
imperative to invest in EMs because they are far more
attractive growth prospects Also just in terms of size they
have been growing so fast for so many years now that they
are decent-sized markets in their own rightrdquo
French company Danone has acted on this In May
it formulated a joint venture and invested a 4 stake worth
US$417m in Chinese dairy producer Mengniu This came
after Euromonitor International estimated that Danonersquos
sales in Chinarsquos yogurt market will grow 57 to US$117bby 2015
Home defenseGrowth however is not the only reason why companies in
the West have made investing and acquiring in EMs such a
priority Adrian Gibb Transaction Strategy Partner at EY UK
believes that an emerging economy MampA strategy is also
vital for defending a companyrsquos home turf
ldquoIf you take a long-term strategic view EM opportunities
are not just important offensively but also defensivelyrdquo he
says ldquoIf you are not pushing into your competitorsrsquo markets
you can be sure that they are pushing into yours Companies
in EMs are cash-rich and eager to move their businesses into
developed economies
and win market share
Companies that stand
still are not only missing
out on growth in EMsthey are also leaving the
door open for corporates
based in emerging
economies to move in on their local marketsrdquo
By the end of May this year rapid-growth market
corporates had ploughed nearly US$351b into 111 deals
in developed economies Asia was particularly busy with
Mainland China and Hong Kong (44 deals) South Korea (11)
and India (9) the most acquisitive in developed markets The
biggest deal came in May when China-based foods business
Shuanghui International announced a deal with US-based
Smithfield Foods Inc worth US$71b
Industry spreadsIn some sectors investment opportunities have presented
themselves only as EMs have diversified And corporates
need to be set up to take advantage ldquoCompanies are not
investing in EMs in the same way they did Over the last
10 to 15 years investment has evolved from targeting
infrastructure resources and industrials into a much broader
range of sectorsrdquo says Anna Faelten Deputy Director of
Cass Business Schoolrsquos MampA Research Centre
Indeed Mergermarketrsquos Emerging Markets MampA survey
shows that corporates see the top three sectors in EMs as
In the strategy of theluxury goods sector
emerging markets arenow crucialAnna Faelten Deputy Director MampA Research Centre
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3244
On the webFor more information on entering rapid-growth markets read EYrsquoslatest Rapid-growth markets forecast at wwwcapitalinsightsinfoemergingmarkets
energy (50) consumer (47) and financial
services (27)
ldquoIn the strategy of the luxury goods
sector for example EMs are crucial the
need for investment is a matter of urgency
Markets for consumer goods health care
and to some extent technology have
opened up toordquo adds Faelten
This importance is highlighted in the
case of Burberry The UK fashion label saw
sales rise 11 to US$772m in Q1 2013
thanks in part to strong demand from China
Looking long termRob Conn Founder of Innova Capital a
private equity firm operating in Central
and Eastern Europe says an EM strategy
is also essential for securing long-term
sustainability in a globalizing world
ldquoIn 2050 people will see this as a time
when large EMs re-integrated into the world
economyrdquo he says ldquoEMs can no longer
be ignored Even if yoursquore investing in a
local company with local growth prospects
you must have an understanding of how
developments in EMs will impact uponthat business If you invest without that
perspective you will make mistakesrdquo
This integration is underlined by the
growing middle class in EMs According to
EYrsquos 2011 Innovating for the next three
billion report the expected three billion rise
in people considered middle class over the
next 20 years will come almost exclusively
from the emerging world In contrast
according to EYrsquos Hitting the sweet spot
report from 2013 the proportion of middle
class people globally who will be from North
America and Europe is expected to contract
from 18 and 36 in 2009 to just 7 and14 respectively in 2030
Location location locationAdopting a systematic approach to EMs
not only helps conservative companies
in developed markets to become more
comfortable with the new risks involved
in emerging MampA mdash it also allows them to
select the most appropriate countries in
which to invest
While Mergermarket figures show that the BRICs remain
the most popular EMs for MampA raw deal data alone isnrsquot
enough to inform these investment decisions According
to EYrsquos Rapid-Growth Markets Forecast 2013 companies
ldquocommitted to rapid-growth markets do not have to succeed
in a BRIC economy before rolling out their products or
services elsewhererdquo
Indeed the aforementioned Emerging Markets MampA
survey shows that smaller markets such as Turkey
Indonesia and Chile are where investors see the best
opportunities Forty percent of respondents view these
three countries as the joint-top non-BRIC EM destinations
most likely to see MampA increase this year This is particularlysalient with Turkey which saw deal values rise 33 in 2012
year on year with 68 coming from foreign investors
The appetite for investment in Turkey has continued
into 2013 For example French company Danone signed a
partnership agreement with Turkish bottled water company
Sirma in May However it remains to be seen whether the
current protests in Istanbul change the pace of investment
Target screeningCompanies should understand differences between markets
and then make an informed choice about where to invest
ldquoA company needs to know what type of consumer itrsquos
looking for where it can find them which markets are mostsimilar to their home market and what it needs to do to
change or adaptrdquo says Faelten ldquoIt has to have a clear idea
of the threats and opportunities in different markets and find
suitable acquisition targets accordinglyrdquo
Nicholson believes that this screening has two stages
ldquoYou want to work through some macro factors looking
at things like the size of population demographic profile
economic growth and infrastructurerdquo he says ldquoThat is
the first part of your screening But the interesting factors
23The percentage of
2012rsquos global MampA
value that came fromdeals in emerging
economies according
to Mergermarket
Top three completed DM into EM deals in 2013
Completion Target Buyer Deal value
(US$m)
FEB
2013Amil Participacoes
(Brazil) mdash 90 stake
UnitedHealth Group
(US)US$5b
APR
2013
EnerjiSA Power
Generation
Company (Turkey) mdash
50 stake
EON (Germany) US$39b
APR
2013
United Spirits
Limited (India) mdash
534 stake
Diageo (UK) US$34b
To July Source Mergermarket
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
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Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3344
2
1
3
developed economies But
corporates should be aware
of some nuances
Do the diligence ldquoIt is all
about good due diligence
practice which you would do
on any company whether it
is in a mature market or an
emerging onerdquo says Gibb
ldquoThink through what the
assumptions are on revenue
growth profitability growthand cash flow and make
sure that you rigorously
validate those assumptions
against the market and operational benchmarksrdquo
Test your weight ldquoIt then comes down to establishing
your weighted cost of capitalrdquo Gibb adds This refers to the
blended rate that a company is expected to pay to all of its
investors in order to finance its assets often adjusted to
reflect potential additional risk in EMs ldquoCompanies can be
over-cautious on that and they use a high cost of capital
which means a value becomes too low and they canrsquot
compete Sometimes they become too aggressive andhave a very low cost of capital and that puts the valuation
high You need to make sure you think through the risks
associated with the deal and come to a balanced view of
what the cost of capital should berdquo
Complexity ldquoIn an EM context there are numerous factors
that need to be taken into account when deciding whether
to investrdquo says Piers Prichard-Jones a Corporate Partner at
law firm Freshfields ldquoThere are a range of state transaction
and operational risks that need to be assessed and which
are inevitably more complex than on a non-EM dealrdquo
Despite the risks involved in moving into these
territories companies in Europe cannot afford to ignorethe huge opportunities that EMs offer Breaking into these
places is risky But the risk is even greater for companies
that do not take up the challenge and are left behind
ldquoWhether companies like it or not having an EM strategy is
imperativerdquo says Faelten ldquoDoing MampA deals in EMs is for
many industries the only way to grow It is where the growth
in consumersrsquo income is and companies cannot afford to
miss the boatrdquo
For further insight please email editorcapitalinsightsinfo
are the customer demand profile and the
competition for supplyrdquo he says
ldquoCompanies need to ask themselves
the following questions is there demand
for what you are offering If there is
supply from local competitors do you
have the wherewithal to compete either
through more advanced technology
proven brands or scale advantages that
you can bring into that marketplace That
should give you a sense of whether the
location is right for yourdquo
This can be seen with Americanquick service restaurant McDonaldrsquos In
February it announced plans to expand
in Russia by adding 150 new restaurants
over the next three years This move came
at a time when the fast-food industryrsquos
turnover in Russia reached US$64b in
2012 providing 45 of the countryrsquos food
catering market growth
Companies that have succeeded in EMs
are ones that have paid close attention to
these micro factors UK pharmaceutical
giant GlaxoSmithKline for example
studied its Indian consumersrsquo diets Whenit found that they did not consume enough
iron it changed the formulation of its
Horlicks product accordingly
Value for moneyValuing acquisition targets can often be
more complex in developing economies
High growth rates mean that vendors in
EMs are demanding top prices In India for
example Thomson Reuters data shows that
EBITDA multiples are running at 147x
significantly higher than the global average
of 118x
Higher prices are putting off acquirersEYrsquos latest Capital Confidence Barometer
published in April polled 1500 senior
executives in 41 countries A quarter of
respondents would not do a deal because
of the gap between the price expectations of
vendor and buyer This has clear implications
for businesses looking to expand and EM
corporates aiming to sell
Establishing an accurate valuation
in EMs involves similar steps to those in
0 10 20 30 40 50
Eurozone
crisis
Health of
advanced
economies
Health of
developing
economies
Slowing
growth in BRICs
Biggest impact on emerging markets MampA over the next year
Answer by percentage of respondents
47
33
13
7
Source Mergermarke
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3444
The big issuance
Bond markets arebooming But is their
growth sustainableand healthy orwill the end of
quantitative easingchange the funding
cycle once more
Bonds are back Last year saw
the highest recorded amount of
corporate bond issuance US$54t
worth of bonds were issued around
the world representing a 131 increase
on 2011 according to Thomson Reuters
Already 2013 has seen the biggest ever
corporate bond issue (Apple raising US$17bin April) and the biggest ever emerging
market issue (Petrobras of Brazil raising
US$11b in May)
By contrast corporates have seen
bank funding recede Lending to emerging
markets fell by 20 in 2012 according
to Cordiant the emerging market fund
managers while in the UK the Bank of
England revealed in April that business
lending fell by pound5b (US$77b) in the three
Key insightsbull Companies should
explore bonds as
an alternative or inaddition to traditional
bank lending
bull Products such as
hybrid bonds can givecorporates a greater
level of flexibility
bull An advantage of bondsover loans is that the
terms and conditionstend to be less onerous
bull Ensure that a bond isthe right vehicle for
you prepare your teamtalk to investors and
watch the costs
months to February The Basel II and III
accords have forced banks to hold more
capital on their balance sheets
ldquoLast year was a crossover mdash there was
more activity in the bond market than in the
syndicated loan market Thatrsquos encouraging
but itrsquos slowrdquo says Luke Reeve Partner in EY
UKrsquos Capital and Debt Advisory Group ldquoTheratio of FTSE 100 bank-to-bond borrowing
is still in the high 70s or low 80s and that
needs to continue moving to a more US-like
arrangement of 6040 or even 5050rdquo
Corporate lending is now expensive
for banks mdash a key factor behind its decline
ldquoGiven that our cost of capital has increased
and the way that we have to capitalize
ourselves since the crisis has become more
conservative it has become much more
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3544
expensive to make loans to corporatesrdquo says Barry Donlon
EMEA Head of Corporate and Capital Syndicate at UBS
Banks have had to shrink their balance sheets
considerably to return to more normalized profitability by
not distributing every asset that they originate ldquoWhat you
have seen is a normalizationrdquo says Reeve ldquoThere is a shift
from an exceptional situation of over-bank liquidity to a more
normal alignment of debt capital Increasingly companies
are taking only their short-term capital requirements from
banks and seeking to place the more core elements of
indebtedness on their balance sheets in the capital marketsrdquo
Other issues are driving the revival ldquoThese issuances
are in part attributable to the current extremely low levelsof interest rates and to corporatesrsquo concerns they will not
last indefinitelyrdquo says Ehud Ronn Professor of Finance at the
University of Texas at Austin ldquoAt the same time investors
have an appetite for yield and so corporates pay reasonable
spreads compared with very low Treasury yieldsrdquo
In search of yieldWith volatility defining major asset classes since the financial
crisis investors have been looking for yield at reduced risk
This played to the strengths of the corporate bond market
ldquoItrsquos clear that volatility is back Certainly in government
bond markets but also in equity and credit marketsrdquo says
Brendon Moran Global Co-Head of Corporate Debt CapitalMarkets at Socieacuteteacute Geacuteneacuterale ldquoAs the market comes to
terms with the removal of central bank liquidity it is a timely
reminder that markets do not always go up and safer haven
investments such as corporate bonds are likely to come
back in vogue mdash they may offer more modest returns but are
very predictable and ultimately offer capital preservationrdquo
However appetite for more yield mdash and by definition
risk mdash has driven greater growth in high-yield bonds ldquoThere
is a tremendous search for yield from both institutional and
retail investorsrdquo says Chris Lowe Partner in EYrsquos UK Capital
and Debt Advisory Group ldquoTo find more yield you either go
out to maturity or more commonly now you move down the
credit quality spectrum So now you see absolutely rampant
high-yield bond market issuance and eminently high-yieldcredits issuing in the retail bond marketrdquo
For instance in the week ending 1 May 2013 investors
ploughed US$22b into high-yield bond funds This was
the largest amount in almost seven months according to
tracking firm EPFR Global ldquoThe value of the incremental
yield from investing in something a little bit riskier has
increasedrdquo says Alix Stewart Head of UK Corporate Bonds
at Schroders ldquoSo therefore demand is there for companies
that would have found it much more difficult to come to
public markets in the pastrdquo
This has changed the dynamic between
bank and bond borrowing with bonds now
being perceived as a more reliable option
than bank finance ldquoWhen we speak to
high-yield companies they tell us about
the bad experiences they had with their
banks in 2009rdquo says Chetan Modi EMEA
Head of Leveraged Finance in the corporate
finance group at Moodyrsquos Investor Services
ldquoSupposedly the model then was that the
high-yield
market was
fickle and thebank market
would support
you mdash but
that wasnrsquot
proven to be
the case A lot
of companies
realized that they needed to diversify their
debt funding structure On top of that a lot
of companies have had to question whether
their banks will even be around or willing to
provide fundingrdquo
Options for SMEsThese changes have big consequences
particularly for small and medium-sized
enterprises (SMEs) Governments have
introduced schemes to encourage banks to
lend to companies but these loans donrsquot
appear to be entering the SME space
In the UK for example the Funding for
Lending scheme which allows banks access
to cheap capital if they hit certain lending
targets is increasing the concentration of
lending with the largest customers ldquoFor the
larger investment grade corporates it is
unlikely that they will change their bank-to-bond mix significantly because bank finance
is still more efficient when undrawnrdquo says
Donlon ldquoBut if you take a small unrated
name in the UK that might have 100
bank financing you are going to see large
numbers of those corporates beginning to
diversify their funding sources and issue
directly into the capital marketsrdquo
This is already happening in Germany
where in 2010 the Stuttgart Boumlrse set up
Demand is there for companiesthat would have found it muchmore difcult to come to public
markets in the pastAlix Stewart Head of UK Corporate Bonds Schroders
D o r l i n g K i n d e r s l e y
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Raising
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3644
a bond platform for SMEs called Bondm
offering issues between euro25m (US$33m)
and euro150m (US$196m) To date 23
companies have issued bonds on the
platform And it is proving popular with
investors too For example in November
2012 developer IPSAKrsquos seven-year bond
was oversubscribed in less than two hours
The popularity of the Bondm has inspired
similar SME bond platforms in Frankfurt
Hamburg Duumlsseldorf and Munich
Germany Switzerland and the US have
long had active retail bond markets wherecompanies issue bonds directly to members
of the public ldquoItaly and other European
countries particularly Germany have seen
vast expansion of SME finance into the bond
marketrdquo says Lowe ldquoWe are following suit
with the Order Book of Retail Bonds (ORB)
market on the London Stock Exchange (LSE)
where we are seeing private placements go
into sub-investment grade in what was pre-
crisis an investment grade asset classrdquo
This is a viable option for companies
with recognizable brand names and
understandable business models Amongthe companies that have issued bonds on
the LSErsquos ORB in the past 12 months are
water company Severn Trent Tesco Personal
Finance Lloyds TSB Bank energy suppliers National Grid
Royal Bank of Scotland and HSBC Elsewhere in Europe
retail bond markets could prove an essential source of
finance for companies in the Eurozonersquos more troubled
economies ldquoIn the peripheral regions there are perfectly
good companies who will find it difficult to get funding so
accessing a domestic investor base would be beneficialrdquo
says Donlon
The cost of flexibilityBond markets are also seeing new products such as
hybrid bonds After a number of false dawns the market
is emerging for a new class of structured bond that issubordinated to normal senior unsecured finance and has
both equity and debt characteristics A key advantage is that
hybrid bonds can be issued without affecting a companyrsquos
credit rating because the bond is effectively open-ended
and can be treated as permanent capital Companies issuing
hybrid bonds in 2013 include environmental services group
Veolia energy companies EDF and National Grid and steel
and mining giant ArcelorMittal
The terms and conditions tend to be less onerous for
bonds compared with loans ldquoBond markets used to ask for
a lot more
in terms of
covenantsand the
high-yield
market
obviously
doesrdquo says
Stewart
ldquoBut at times like this when people are desperate to get
money invested the market has been a bit lax on asking for
these types of protections From a company point of view
that is attractive because you are less restrictedrdquo
For smaller issuers however bonds are not necessarily
a cheap option For a start smaller corporates are likely to
be unrated high-yield issuers so will have to pay a coupon
considerably higher than the prevalent rate of interestThe second expense surrounds the fixed costs in terms of
fees that go into an issue These can escalate in retail bond
issues where there are arrangers and private client brokers
between the borrower and the eventual holder of their debt
The known unknownsThe future for the bond market does hold uncertainties
There are concerns that a ldquogreat rotationrdquo will see a shift of
funds out of bonds and into equities However few investors
and bankers see signs of this happening in the near future
A lot of companies realizedthat they needed to diversifytheir debt funding structureAlix Stewart Head of UK Corporate Bonds Schroders
Global annual bond issuances and proceeds 2008-2013
2013
2012
2011
2010
2009
2008
Number of issuesProceeds Up to June 2013 Source Thomson Reuters
US$39t
9644
US$53t
US$50t
US$48t
US$54t
11236
14498
11819
US$28t
6847
13022
pound5b(US$77b) fall in bank
business lending in
the UK in the threemonths to February
2013 according to
the Bank of England
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3744
The bond ladder
2
3
1
4
5
Five steps to take beforeissuing a bond
Validate the offeringThe corporate treasurer needs to start
at the point of validation Establish the
corporate strategy and identify the
capital products that suit it A bond
may or may not be the most suitableform of financing and in some
instances a rush to take advantage
of open markets may lead to finance
that is not fit for purpose For example
businesses in cyclical sectors such as
housebuilding or retail may not suit
long-term debt finance
Prepare your teamDoes your company have the skills
and capacity to handle a bond
issue and the associated reporting
requirements Issuing a bond is time-
consuming The issue itself typicallytakes place on an accelerated 12-week
timetable and then there is the time it
takes to report to investors and ratings
agencies
Talk to investorsSuch is investor demand for new credits
particularly those further along the risk
spectrum that it is easy for companies
to get meetings with potential investors
Unlike in the past it is not the case
that holding meetings commits you to
a transaction
Watch the costsIssuing bonds is not a cheap process
particularly for smaller companies
Typically fees will account for 15ndash2
of the capital raised For many
companies particularly large borrowers
who enjoy privileged relationships
with their banks bank debt may becheaper Many bonds trade down in the
immediate aftermath of issuance
Need the moneyHow will you use the money raised
A big question is whether the capital
can be invested for a decent return
Companies should ask if there is a
market for their expanded output
with most arguing that the market is in good
health ldquoAs long as wersquore selling reasonable
companies in the right sectors at the right
prices this should be a market that develops
slowly as it is developing nowrdquo says Donlon
ldquoWersquore seeing a slow gradual rebalancing of
the market in a healthy wayrdquo
Assets under management in high-
yield bond funds continue to grow across
Europe and higher-yielding bond funds have
continued to perform well ldquoI donrsquot see any
particular trading out of those bond funds
into equity fundsrdquo says Lowe ldquoTo the extentthat the relative value game begins to shift
down there is a threat mdash but I donrsquot think
thatrsquos a big issue What could be an issue is
that we do not know what the unwinding
of quantitative easing (QE) looks like My
expectation is that it will be a very slow
gradual process that will most likely create
a very low and long-term drag on economic
performance and global markets You cannot
correct that scale of activity in short orderrdquo
Both bond supply and demand have been
driven by record-low interest rates and QE
When interest rates rise and QE ends the bondmarket could be in for a shock ldquoThere has
been a positive self-reinforcing cycle whereby
certain investors responding to attractive
returns want to put money into corporate
bonds making it easy for companies to issue
and refinance which in turn reduces default
risk and results in further positive returns
for investorsrdquo says Professor Lucie Tepla at
INSEAD ldquoBut it could take just a few months
of negative returns on the asset class for
bond mutual fund or exchange-traded fund
investors to start pulling money out and it
could unravel in the opposite directionrdquo
In 2011 European bond marketswobbled as the global financial community
questioned whether European policy-makers
could address sovereign credit quality issues
This started with a focus on banks but
followed on to companies with heavy debt
levels Investors were concerned whether
they would be able to do simple things like
renew their bank facilities ldquoThe European
bond market was the mirror for confidence
of the global financial system in European
13increase in the value
of bonds issued
around the world lastyear which totaled
US$54t according to
Thomson Reuters
politics and its ability to address the issuesrdquo says Reeve
ldquoThe boom in bonds is as sustainable as quantitative easingrdquo
Looking at future bond issuance two clouds loom on the
horizon continued economic uncertainty and the eventual
winding down of QE Corporate earnings have been robust
and default rates on bonds remain low while yield-hungry
investors create demand QE is the great uncertainty but
the consequences of a disorderly end go far beyond the
bond market For corporates bonds will remain a viable and
effective financing tool
For further insight please email editorcapitalinsightsinfo
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3844
Key insightsbull Asset management
is one sector of the
financial servicesindustry that has come
through the crisis withits reputation still
relatively sound
bull Investment in
innovative productsand services is vital
to the continued healthof the industry
bull Innovation must
concentrate oncustomer needs
bull The industry needs toinvest in products that
can meet the needsof todayrsquos and
tomorrowrsquos retirees
bull The asset managementindustry must harness
information technologyto meet its customersrsquo
changing needs
bull Increased regulation
in the sector meansasset managers
must deal a lotmore closely at a
corporate level withthe relevant regulators
bull The industry must lookat macroeconomic andmicroeconomic events
and be nimble inaddressing short- and
long-term changes inthe economy
The asset management sector has emerged relatively unscathedfrom the nancial crisis But to reach its full potential the industrymust boost innovation and work within tough new regulations
businessof Taking care
G e t t y I m a g e s I m a g n o
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 3944
Lofts UK Head of Asset Management at EY ldquoOver 50 of
money invested in Europe 2012 went into newly launched
funds and of this over half went into newly launched foreign
investment funds In addition more than 50 of emerging
market debt funds in Europe were launched in the last three
years which demonstrates the speed with which the industry
is reacting to global economic conditions and opportunitiesrdquo
Emerging market debt is not the only new asset class
into which the industry is seeking to move A number of
new areas are emerging such as farmland funds new over-
the-counter (OTC) instruments such as variance swaps and
distressed assets Overall the industry is offering investors
an increasingly diversified range of products and regions
The customer is always rightYet innovation in the industry is no longer just about creating
new products ldquoThe industry has woken up to a need for
greater consumer focus over the last few yearsrdquo says Ed
Dymott Head of Business Development at Fidelity the global
financial services group ldquoAsset managers are increasingly
looking at how to tailor offerings to provide clients with the
best possible solutions for their needs So while a few years
ago asset managers might have provided a single part of an
investorrsquos portfolio now they are looking at providing holistic
solutions with an integrated service model in support It is no
longer product led Leading asset managers are instead noworientating around customer and solutionsrdquo
EYrsquos Innovation for asset management survey 2012 backs
this up It found that devising ldquocreative solutionsrdquo to investor
needs was the highest-ranking definition of innovation
provided by asset managers Technological development
underpins this trend It allows asset managers to develop
ways of helping investors to understand the products they are
buying Technology was joint second as the most important
driver of innovation in the EY innovation study
ldquoThere is a lot of work going into ensuring that clients
understand what they are buying into and paying forrdquo
explains Fleming ldquoThe digitization of communications and
documentation is helping this as is the internet and the
creation of apps They are being designed to help peoplemake the right choicesrdquo
Successful innovation requires dedicated capital for
investment as well as embedding a product development
culture throughout the organization
ldquoWe spend our own capital to fund new pilot productsrdquo
says Dymott ldquoMany of these may not reach the market but
this approach lets us drive a culture of innovation We do have
product development and strategy roles but we encourage
innovation throughout our organization Ultimately a lot of
good ideas actually come from the customersrdquo
W ith the quest for high-yield products
continuing and with greater need for
retirement products in developed countries
as their populations grow older the asset
management (AM) industryrsquos role in the economy is becoming
ever more vital
Indeed a November report by TheCityUK a financial
services industry body said that the value of conventional
assets (excluding assets such as hedge funds and private
equity) was expected to reach US$852t by the end of 2012
up from the US$841t calculated for the first nine months of
that year Furthermore Eurozone asset manager assets under
management (AUM) increased by 116 in 2012 accordingto EYrsquos latest Outlook for financial services report and is
expected to increase again by 83 this year
Much of this rise in AUM comes from market performance
But new cash inflows into multi-asset funds mdash which grew by
30 in 2012 mdash and German French and Italian bond funds
have been strong ldquoGlobally the asset management industry
is in good shaperdquo says Roy Stockell Leader of EYrsquos Asia
Pacific and EMEIA Asset Management practice ldquoThe fact that
equity markets are coming back strongly is helping to push
investors out of cash-based products and into equities and
fixed incomerdquo
Investing in innovationThe industry appears to be emerging strongly from the
financial crisis Campbell Fleming CEO of Threadneedle
Investments agrees ldquoAM is one of the few areas of financial
services that escaped with most of its reputation products
and structures intactrdquo he says
But the industry faces challenges In particular increased
regulation and a growing demand for more diverse products
is adding to the complexity of managing the worldrsquos wealth
One of the key ways in which asset managers are
attempting to meet investorsrsquo changing needs is through
product and service innovation mdash investors are becoming more
demanding In addition the persistently low interest rates we
have seen over recent years and the recognition that investor
behavior is highly correlated to financial shocks have meantthat investors are searching for new products and asset
classes that will generate higher returns and reduce volatility
One beneficiary of the quest for new investments has
been the European high-yield bond market which has had a
record year to date Dealogic figures suggest that issuance to
the start of May 2013 was US$571b mdash twice the amount for
the same period in 2012 Companies have taken advantage
of investor appetite for higher risk in the search for yield
ldquoFund managers have to innovate constantly and create
new products to keep up with investor demandrdquo says Gillian
On the webFor more on asset management read EYrsquos latest Innovation for asset
management survey at wwwcapitalinsightsinfoam
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 3
Optimizing
Investing
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4044
of asset
allocators that
are overweight in
equities compared
with a net 41 in MaySource Bank of America Merrill Lynch
48of respondents see
adopting regulation as their
main challenge in 2013Source Linedata
expected growth in
assets under
management
in 2013Source EY
8of asset managers who
say the current financial
climate means they
need to differentiate
from competition but
will continue to investSource Linedata
34
16of asset managers who predict
ldquocontinued volatilityrdquo to be a
theme through 2013Source Linedata
48Asset management in numbers
l c
s h u t t e r s t o c k
Post-pension bluesNowhere is innovation more necessary in todayrsquos market
than in the growing decumulation space mdash the conversion of
pension assets built up during a personrsquos working life into an
income-providing product ldquoWe are seeing a wave of retirees
from the baby-boomer generationrdquo says Elizabeth Corley
CEO of Allianz Global Investors ldquoThey are switching their
savings needs from the accumulation stage to decumulation
and they need stable income in retirementrdquo
One of the issues here is that people in the developed
world in particular need to save more over their lifetimes
to generate sufficient income to support retirement Figures
from Aviva suggest that across Europe there is a euro19t(US$25t) annual pensions gap (the difference between the
amount needed for retirement and the amount being saved)
For those retiring today this issue has been compounded
by a difficult economic
backdrop ldquoOne of the
key challengesrdquo says
Corley ldquois the
low returns being
achieved in an era
of financial repression
The low interest rate
environment means
that the incomes they can buy often provide them withsignificantly less than they would needrdquo
The challenge for the industry is to devise products or
solutions that can meet the needs of todayrsquos retirees and
tomorrowrsquos It is far from an easy task but it is one that
would unlock significant growth for the AM space
ldquoPeople need an income capital protection and yield
without significant risk mdash and these are forces that all push
and pull against each otherrdquo says Lofts ldquoAt the same
time the products have to provide asset managers with a
reasonable return Itrsquos here that we will need to see true
innovation from the industry Asset managers really need to
start looking at how they can benefit from growth in this part
of the marketrdquo
An issue for asset managers is handling risk indecumulation products Given their long-term nature and the
need for guaranteed income they must find ways of meeting
the marketrsquos needs without taking the risk onto their balance
sheets A way of doing this could be developing joint ventures
and partnerships with banks and insurance companies ldquoThe
issue here is how asset managers can package products that
would be attractive to banks and insurance companies which
would then wrap the product for the end userrdquo says Lofts
But this can be challenging says Massimo Tosato
Executive Vice Chairman and Global Head of Distribution
at Schroders The AM firm has spent three
years researching a new product with a
20-year horizon featuring growth in the
early years followed by decumulation later
on ldquoThis is not offered by insurersrdquo explains
Tosato ldquoThatrsquos because it is very hard to find
distribution for it Insurers donrsquot want to lock
this in their balance sheet for 20 yearsrdquo
Changing channelsAs a result of this and other trends there
are signs that the distribution channels for
many asset managers are changing One ofthe most important factors is the shifting
of responsibility for welfare provisions
such as pensions and health care away
from the state and toward the individual A
dramatic example of this is the move away
from defined benefit to defined contribution
pension schemes This shifts risk to
individuals and people must now self-direct
investment decisions more than ever before
Defined benefit pension schemes also
known as final salary continue to disappear
from workplaces In the US between 1975
and 2007 the number of defined benefitscheme participants fell by a third to 19
million according to the US Department of
Labor figures while the number of people in
defined contribution plans increased sixfold
to 67m The picture is similar across Europe
Regulation is also affecting the
distribution of products and services The
Retail Distribution Review (RDR) in the UK
for example is leading to a greater separation
of advice and investment management
There are similar Europe-
wide proposals in the
latest Markets in Financial
Instruments Directive (MiFID)II The advisors banks
and insurers that are the
traditional distributors of
asset managersrsquo products
will now need to charge for
any advice they give And
that may result in end-users
bypassing their services
Therefore asset
managers need to work
Increased regulationwill further polarize thewinners and losers in theasset management sector Ed Dymott Head of Business Development Fidelity
852testimated value of
conventional AUM
globally at the end
of 2012
Source TheCityUK
US$
Capital Insights from the Transaction Advisory Services practice at EY
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4144
Up with the AMWhat other sectors canlearn from asset managers
2
1
3 5
hard on improving their communication with customers
ldquoThis means asset managers will focus more on addressing
business-to-consumer as well as business-to-business
audiencesrdquo says Hugh Young Managing Director Aberdeen
Asset Management Asia And technology will be key to this
ldquoThe internet as a source of information is transforming
the way investors relate to fund information their advisors
and self-selection criteriardquo says Young ldquoTechnologies will
mean wraps and platforms become even more accessible
Institutional channels in many countries guided by consulting
actuaries will also have to become more retail as the shift
away from defined benefit schemes continuesrdquo
Play by the rulesYet possibly the biggest factor in all the activities that asset
managers undertake is the tide of increasing regulation they
face From RDR in the UK to MiFID II across Europe asset
managers are having to cope with a raft of new standards
This affects all areas of business and is ultimately leading to
increased costs While consolidation has always been a feature
of the market some believe that the pace is quickening
ldquoIncreased regulation will further polarize the winners
and losersrdquo adds Dymott ldquoThe winners will be those that are
broad and big and those that are small niche and nimble
The challenge is for those firms who are caught in the middle
The cost of regulatory capital will make the space in-betweena far from easy place to be Ultimately though those best
placed to cope with increasing regulation will be the ones that
focus on providing exceptional customer outcomesrdquo
Indeed increased regulation could help the industry
mdash as long as it is well drafted and achieves the right outcomes
ldquoNo sensible manager should object to the principles behind
the regulatorsrsquo aimsrdquo says Fleming ldquoEveryone wants a level
playing field transparency around pricing and an industry of
professional players that are well capitalized and operating to
the highest standards The problems creep in when there is a
politicization of the regulation and differing interpretations of
the rules by different statesrdquo
Thus far the industry has been a little slow to react
to the new environment Some also suggest that theresponse from the industry has not been as productive
as it might have been ldquoWhatrsquos needed is engagement with
policy-makers in a thoughtful wayrdquo says Corley ldquoManagers
need to provide the wider world with insight so that
people understand the importance of the industry and how
customers behaverdquo
Yet there are signs that asset managers are changing
their approach ldquoOne of the key differences over the last
five years has been a shift in the way that asset managers
have engaged with regulators and legislatorsrdquo says Corley
ldquoWhere previously this had been left to the public affairs function
now the CEO or CIO of an asset manager will be involvedrdquo
Overall AM is in healthy shape ldquoThe future is bright for the industryrdquo
says Stockell ldquoThe world needs strong and transparent asset managers
Both the regulators and asset managers need to recognize this and act by
educating clients and demonstrating the value they bring Asset managers
need to get back to what they do best mdash they exist to generate wealth and an
income stream for their clients in old agerdquo
For further insight please email editorcapitalinsightsinfo
4
Create innovative products that
customers want It might seem
simple enough but providers
need to create solutions that help
customers achieve their ambitionsand needs
Listen to customers ldquoSuccessful
product development requires
spending time with customers
to get to grips with what they
want and needrdquo says Ed Dymott
from Fidelity ldquoMoving away from
product-led to customer-led can
really drive innovationrdquo
Choose your partners wisely
For certain products JVs maywork well but think carefully
before signing ldquoWe have tended
to steer clear of JVs and prefer
to keep full ownershiprdquo says
Hugh Young of Aberdeen Asset
Management Asia ldquoWe feel that
it is important to have purity
and control over the investment
processes We then have to win
over distributors by the quality of
our offering service and supportrdquo
Engage with regulators earlyIf your industry is facing
increased regulation ensure that
communication is both timely
and suitably senior ldquoEngagement
rather than lobbying is what gets
resultsrdquo says Roy Stockell Leader
of EYrsquos Asia Pacific and EMEIA Asse
Management practice ldquoAnd that
engagement needs to come from
the C-suiterdquo
Watch micro and macro events
closely Events affect assetmanagement profoundly but
other industries are affected by
these too For example the rise
of younger and more affluent
populations in emerging markets
is leading to enormous opportunity
for businesses in all sectors of the
economy Being nimble enough
to react to short- and long-term
changes in the economy is essentia
in todayrsquos business environment
wwwcapitalinsightsinfo | Issue 7 | Q3 2013 | 4
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4244
Capital Insights from the Transaction Advisory Services practice at EY
Moellerrsquos corner
Prof Scott Moeller
Dealno deal
or
Professor Scott Moeller is Director of the
MampA Research Centre at Cass Business School
copy P a u l H e a r t f
e l d
An acquisition is often a risky proposition
But spotting the warning signs when a deal isgoing wrong and knowing how to react canhelp corporates avoid expensive mistakes
shipping business MISC Berhad Minority
shareholders rejected the deal and
after revised terms were issued the deal
eventually expired in April after it didnrsquot
get enough acceptances
Leaked information can also be a
sign that not all is right Intralinksrsquos MampA
Confidential report conducted by Cass
Business School and Mergermarket andpublished in April shows that risks can
increase when deal details are leaked
Leaked deals take on average 124 days
to complete whereas non-leaked deals
take 116 days According to a partner of a
German law firm interviewed for the study
leaks can cause bidders to change strategy
And they can prove fatal Between 2010 and
2012 leaked deals had a lower completion
rate (80) than non-leaked deals (88)
However before you halt a deal
consider ways to head-off potential
problems For instance built-in ldquostop or gordquo
decision points allow you to haul in a dealbefore it gets past the point of no return
Betting exchange Betfair for instance set a
deadline for buyout house CVC to convince
its management of Betfairrsquos proposed
management strategy When it did not the
deal was pulled with both parties agreeing
to go their separate ways
A second tenet to bear in mind is to
constantly challenge the perceived wisdom
As most deals start at the CEO level
confirmation bias can ensue This means that
you only look for information that backs up
what you believe and discount as irrelevant
data that points in the other direction A
2012 study by the University of Washingtonrsquos
Adam Kolasinki and Xu Li of Lehigh University
found that strong and independent boards
can help prevent CEOs from making honest
mistakes when they attempt to acquire otherfirms This is also important in the long run
The research points out value-destroying
deals by CEOs were more likely to be followed
by less-costly ones in the future as they
become more cautious
In the aftermath break fees may
occur for companies who pull the plug on
an acquisition This may be painful but
it can be a small price to pay for averting
future losses For example this January
US express parcel delivery service UPS paid
TNT US$200m after withdrawing its bid
for the Dutch distribution company over
regulatory issues In contrast 2012 sawUS$14b-worth of writedowns at mining
company Rio Tinto following failed deals
in aluminum and coal
While spotting the symptoms can save
a deal knowing when to walk away can not
only save face but capital as well The best
deals are often those that you didnrsquot do
A ccording to an old Chinese
proverb ldquoof all the
stratagems knowing when to
quit is the bestrdquo Perseverance
can be rewarding but walking away from
a deal instead of chasing a lost cause can
help corporates save themselves a world
of trouble
The first signal that a deal is headingin the wrong direction can come in the
due diligence phase If the process shows
issues that went unnoticed on initial
inspection this could be a clear red flag
However the difficulty of due diligence
was outlined in the RR Donnelley and
Mergermarket 2013 MampA Outlook survey
in which 46 of respondents stated that
it was the most complex stage in the MampA
process In the past three years there
have been numerous examples of due
diligence failures costing corporations
millions of dollars At the end of 2011
a report from the UK Financial ServicesAuthority stated that ldquolimited due
diligencerdquo was one of the reasons for the
failure of a deal between Royal Bank of
Scotland and Dutch bank ABN Amro
Changes in the deal terms can also
cause alarm bells to ring For instance
this January Malaysiarsquos Petroliam
Nasional Berhad announced a near-US$3b
takeover offer for the remaining shares
that it did not already own in compatriotFor further insight please email scottcapitalinsightsinfo
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4344
Capital Insights on the move
Welcome to the website
Find every article from
every issue of Capital
Insights at the click of a
mouse Plus regular news
updates and EY publications
and thought leadership
On the web
Exclusive videos
At wwwcapitalinsights
info yoursquoll also find
exclusive video content
from EY partners and
experts on all aspects of
the capital agenda
European private
equity exits
How can private
equity investors
create value for the
businesses they
back in Europe Find
out the answers in
the latest EY study
Rapid-growth
market forecast
Emerging markets
are the new engines
of growth Before
venturing into brave
new worlds beat
the pack with Julyrsquos
EY forecast
All tied up 2013
Companies needto use effective
working capital
strategies to fund
growth Discover
the top performers
in EYrsquos new working
capital report
Further insights
Thought leadership and capital agenda-focused reports available at wwwcapitalinsightsinfo
Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
Apps
Take your tablets
For insights on raising investing optimizing
and preserving capital download the Capital
Insights app for tablets and phones Apps feature
exclusive articles and video as well as the latest
transactions news
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
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European private
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How can private
equity investors
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back in Europe Find
out the answers in
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Rapid-growth
market forecast
Emerging markets
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of growth Before
venturing into brave
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All tied up 2013
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Growing BeyondGrowing Beyond
E rn st amp Yo un g Ra pi d- Gr ow th M ar ke ts Fo re ca st J ul y2 01 3
Rapid-growthmarkets
Myths and challengesHowdo privateequityinvestorscreatevalue
Astudyof 2012Europeanexits
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8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos
8142019 Capital Inside
httpslidepdfcomreaderfullcapital-inside 4444
In times gone by when youneeded new funds you only
had to talk to one person
Today there are many ways to raise capital
But more choice brings greater complexity
Whether yoursquore disposing of assets going
public or tapping the capital markets you can
dra on the e perience and insight of EYrsquos