The S&P 500 recently hit a new high as it drove through the 2000 mark for the first time in history on the day that Burger King Worldwide Inc. (NYSE: BKW) announced that it would purchase iconic Canadian fast food chain Tim Hortons Inc. (NYSE: THI).
Thus far in 2014 there have been $2.3 trillion of announced mergers & acquisitions (M&A) transactions around the world - $1.16 trillion in the United States alone - and undoubtedly there are more on the horizon.
Indeed, M&A activity is a major catalyst for the booming stock market and is good for investors.
Unless it's really a sign of a dying bull... If that's the case, we're in some big trouble.
Here's what's got me concerned, and why we need to exercise caution right now...
Robust M&A Activity Is Misleading
Part of the rationale driving the Burger King deal and many others in 2014 was the potential opportunity for Burger King to move its corporate headquarters to Canada, which has a lower corporate tax rate than the United States, where Burger King is headquartered.
Burger King actually pays taxes in the mid-20% range and does not expect its overall tax rate to increase after the transaction, but the fact that it is moving its domicile to Canada suggests that taxes were a consideration in driving the transaction.
But regardless of the specific reason for this merger, M&A activity, in general, is booming.
There have been $200 billion of telecom deals and more than $100 billion pharmaceutical industry deals (the latter of which has been particularly prone to tax inversion plays).
In the technology sector, M&A deals are running at their hottest pace since 2000 with $174.4 billion of deals so far this year. Notable deals include Facebook Inc.'s (NYSE: FB) acquisitions of texting company WhatsApp for $19 billion and virtual reality company Oculus VR, and Amazon.com Inc's (Nasdaq: AMZN) $970 million acquisition of Twitch, the leading gaming platform.
Perhaps even more notable were the deals that were attempted but not brought to fruition like Twenty-First Century Fox Inc.'s (NYSE: FOX) failed attempt to buy Time-Warner Inc. (NYSE: TWX) which would have added considerably to the annual deal tally.
With the exception of those companies engaging in tax inversion deals, which still constitute a minority of transactions, today's mergers are being driven by strategic buyers rather than by private equity firms and other firms driven primarily by financial motives.
For the most part, the buyers are large, blue-chip companies.
There have been a limited number of leveraged buyouts in 2014, particularly very few large leveraged buyouts. This is primarily because the large buyouts of the mid-2000s have fared poorly and private equity firms have shifted their focus to asset management activities and to nursing their troubled deals from a decade ago back to health.
M&A activity has been supported by healthy equity and debt markets. Robust stock prices have enabled companies like Facebook to use their stocks as currencies, as it did in the acquisition of WhatsApp. Blue chip companies have had no trouble borrowing billions of dollars at very low interest rates to finance their deals as well. M&A deals help move stock prices higher and line the pockets of bankers and lawyers. They are also believed to be an expression of confidence in the future on the part of corporate executives.
The M&A Boom Has a Dark Side
There is a darker side to M&A however, and its consequences can spell the end of the bull run.
For many companies, M&A is something they do when they run out of ways to grow internally.
Furthermore, many M&A transactions fail to generate the promised synergies and growth. Instead, they generate massive layoffs and write-offs. Those transactions that involve the incurrence of large amounts of debt force companies to devote more capital to servicing that debt than to growing their businesses, creating new products, and hiring new workers.
Many companies today are looking at merging in order to respond to competitive threats and other challenges or deficiencies in their own businesses that they can't solve on their own.
In trying to answer whether M&A is a positive thing for a company, these factors have to be entered into the equation. M&A generally doesn't lead the market or lag the market; it occurs when the market is strong and slows down when market conditions become difficult.
Today's M&A boom is very likely coming at the tail end of an epic bull market.