The impact of Brexit on M&A activity in the UK: Evidence from 2017 Q1

In the aftermath of the UK’s June 2016 EU referendum, Theresa May announced that a “proper industrial strategy wouldn’t automatically stop the sale of British firms to foreign ones, but it should be capable of stepping in to defend a sector that is as important as pharmaceuticals is to Britain”.[1]

Statements of this sort suggest that, post-Brexit, the UK would be more inclined to protect national interests by applying industrial policy considerations to both domestic and international M&As. At present, such a possibility is ruled out as the UK, being a Member State of the EU, must abide by the EU merger control laws, as well as EU laws governing the free movement of capital and freedom of establishment.

Ultimately, a major consideration in this respect is the post-Brexit model adopted:

• If the UK leaves the EU but remains a member of the EEA, the same EU laws will continue to apply, thus resulting in limited material change to the UK’s legal position.[2]
• If the UK exits both the EU and the EEA then those restrictions would no longer hold. In that case, the scope of intervention would likely depend on the terms of post-Brexit bilateral trade and investment agreements between the UK and its trading partners (including, but not limited to, the EU). However, acquirers of businesses in sectors meeting both UK and EU merger control thresholds could face the possibility of three parallel reviews:
• on competition grounds under EU laws;
• on competition grounds under UK laws; and
• on the basis of an expanded UK public interest test.

In this regard, an intuitive way to preliminarily assess the UK’s post-Brexit M&A prospects is to inspect the M&A activity in the UK during 2017Q1. The performance of the UK M&A market during this period of high uncertainty could serve as an indicator of investors’ beliefs over the appeal of the UK as an M&A destination post-Brexit. Focusing on incoming data from 2017Q1 is most helpful in this respect for two reasons:

• The pound’s immediate depreciation in the aftermath of the referendum made it cheaper for foreign companies to acquire British targets. It would thus be difficult to disentangle deals that were set up with the goal of long-term value creation from those that were completed so as to take advantage of the relative devaluation of the pound, focusing on short-term profit generation (e.g. fire sales).[3]
• 2017Q1 falls within the period between the EU Referendum and the triggering of Article 50 that formalised the UK’s intention to leave the EU, yet with a sufficient amount of time having passed since the Referendum vote (i.e. 6 months). Relative to 2016Q2 and 2016Q3, this period is thus expected to be more influenced by the ongoing uncertainty over the Brexit deal and less so by exchange rate movements.

Overall, 2017Q1 presents a mixed picture in terms of UK M&A.[4] More specifically:

• The overall number of transactions decreased — there were 1,366 transactions announced during 2017Q1, a decline of 25.5 per cent from the 1,833 deals recorded during 2016Q1.
• The total value of transactions increased — the total value of all UK deals amounted to £76.2 billion, a 57 per cent increase, relative to 2016Q1.

The increase in transaction value is to a large extent due to a considerable increase in “mega-sized” deals (i.e. above £1 billion in deal value). More specifically, while volumes fell in each of the remaining value segments (i.e. small, mid and large deals) by 13, 31 and 3 per cent, respectively, there was a 56 per cent increase in deals that exceeded the £1 billion threshold in 2017Q1, relative to 2016Q1. It is worth noting that a considerable part of these mega-deals involves foreign acquirers. For instance, these M&As include:

• the acquisition of a minority stake in Cambridge chipmaker Arm Holdings by Saudi Arabia’s Vision Fund for around £6.4 billion; and
• the acquisition of the employee benefits outsourcing business of UK insurance group Aon Plc by US private equity firm Blackstone for roughly £3.8 billion.

Amidst growing political turmoil globally (e.g. the upcoming elections in France and Germany as well as the political situation in the US), evidence of this sort suggests that dealmakers are getting used to this uncertainty as a feature of the M&A landscape. The data illustrates acquirers being ready to engage in bold M&A moves, rather than sit and watch how the negotiations eventually play out.

Such shifts in attitude are further reflected in chief financial officer (CFO) surveys. For instance, the recent UK finance chief survey illustrates that only 11 per cent of surveyed CFOs expect M&A activity to decrease over the next three years as a result of Brexit, down from 40 per cent immediately after the referendum.[5]

Throughout its history, the UK economy has proven its resilience to a plethora of shocks, while a recent study shows that London remains the capital for fast-growing European companies.[6] Overall, these suggest that the corridor between the UK and Europe is likely to remain busy this year, resulting in strong M&A activity.

[1] See https://www.ft.com/content/44bca766-df38-11e6-9d7c-be108f1c1dce

[2] The UK Government could, however, engage in more permissible interventions than it has to date.

[3] See Harris, R.S. and D. Ravenscraft (1991) “The Role of Acquisitions in Foreign Direct Investment: Evidence from the U.S. Stock Market” Journal of Finance, Vol 53, p.825-844

[4] See Experian Business Research (2017): "United Kingdom and Republic of Ireland M&A Review: 2017Q1"

[5] See http://www.cityam.com/262994/uk-expected-retain-strong-ma-relationship-rest-europe

[6] See https://www.ft.com/content/a51ccce4-1a07-11e7-a266-12672483791a