|
|
Market Overview
Following the Federal Reserve Bank’s decision not to raise interest rates at the latest FOMC meeting the economy continues to show signs of slowing down. The Index of Leading Economic Indicators fell 0.1% last month, driven largely by a continued cooling of the housing market. In July, the number of building permits issued dropped 6.5% and new home construction fell 2.5%. In addition, industrial production rose by 0.4% in July, half the June gain, as manufacturing output decreased. These numbers followed reports that wholesale prices were up just 0.1% in July, excluding food and energy which fell by 0.3%.
High energy prices continue to drive some inflationary pressure, as so far this year, energy prices have risen at an annual rate of 25.3%, helping to boost overall inflation to an annual rate of 4.8%, compared with a 3.4% rise for consumer prices for all of 2005. The July CPI showed continued increases, rising by 0.4%, double the June increase. However, outside of energy and food, prices rose by just 0.2%, less than the 0.3% expected and the smallest gain in five months. Overall, economists are split on whether the Fed has finished raising rates or has one rate hike left, as there are some concerns the economy is not slowing enough to offset the Fed’s inflation concerns.
M&A Overview
M&A activity has continued unabatedly through the summer, keeping 2006 on track to be one of the best deal years in recent memory. However, as an indication that availability of capital and high levels of M&A activity might be impacting valuation expectations, three high profile targets have recently taken themselves off the market. ImClone Systems, Bally Total Fitness and Jones Apparel Group have all recently ended conversations with potential buyers as they were not receiving interest at the levels expected. Another high profile company with a long anticipated entry to the market could see its breakup plans realized soon, as a recent favorable racketeering decision increased the possibility of Altria acting to spin off Kraft Foods and break its tobacco divisions into separate domestic and international companies.
Another deal is expected to be finalized shortly, as Alcatel shareholders are slated to meet early in September to vote on the company’s pending merger with Lucent Technologies, a transaction that has seen support erode recently. Both companies have seen their share price drop significantly since the deal was announced; Alcatel by 24% and Lucent by 27%. According to the deal agreement, Lucent is valued at $2.41 per share. However, last week Lucent was trading around $2.27 per share, suggesting that some traders see the deal falling apart.
|
|
|
The above Exhibit illustrates how transaction revenues multiples are strongly correlated to the underlying profitability of the Company. The analysis shows for three business segments the median EV / Revenue multiple for both the targets in the top 25% of EBITDA margins, as well as the bottom 25%.
Directionally, this conclusion is not surprising, since profits are a key driver for value. While arguably EBITDA multiples are therefore a more reliable valuation metric, revenue multiples are still frequently used in valuation discussions. This is particularly true for software companies (that are typically not profitable in their earlier stages) and to a lesser extent for business services companies. Given the wide discrepancy between revenue multiples for the top 25% and bottom 25% most profitable companies, this analysis clearly illustrates the danger of relying on revenue multiples without regard for underlying profitability.
|
|
For background information about methodology and definitions, please click here. For any questions about the Middle Market Monitor or Mirus Capital Advisors, please contact Mirus Capital Advisors at 781-418-5900 or visit www.merger.com. You can also contact our senior bankers directly at:
Sources: CapitalIQ and Mirus analysis. Copyright 2006, Mirus Capital Advisors, Inc. All rights reserved. Mirus Capital Advisors does not assume any liability for errors or omissions.
|
|
| |
