Market Overview

According to The Reuters/University of Michigan Surveys of Consumers, US consumer sentiment recently hit a three year high as falling gasoline prices and an improved outlook on economic growth have buoyed consumers. However, inflation remains a concern, with US consumer prices showing the sharpest increase in eight months during December, climbing 0.5 percent. This increase in the CPI was also the first increase since August and followed an unchanged November.

Although Federal Reserve officials have stated that inflation remains a central concern, especially with dropping oil prices having the potential to free up resources and spur consumer spending, the Fed is expected to keep US interest rates on hold when its policy-setting committee meets on January 30-31. Despite inflation in 2006 easing to the slowest pace in three years, driven in large part by a decrease in energy prices, inflation still remains above the Fed’s target comfort zone, and investors looking for rate cuts may have to wait until the second half of 2007.

The market also took great interest in Federal Reserve Chairman Ben Bernanke’s recent testimony before the Senate Budget Committee, in which he warned of the looming threat of 78 million baby boomers retiring.  Bernanke pushed lawmakers to address current policies that could lead to a weakening of the US economy and rising budget deficits as retiring baby boomers impact both Social Security and Medicare spending. Current projections from the Congressional Budget Office show that spending on entitlement programs will reach 15 percent of US gross domestic product by 2030, nearly doubling today’s levels. Trustees for the retirement programs said last year that, under current conditions, Social Security would last until 2040 and Medicare only until 2019.

M&A Overview

Venture capital dealmaking in 2006 saw a 12 percent increase over 2005 levels according to PricewaterhouseCoopers, Thomson Financial and the National Venture Capital Association, with the $25.5 billion invested marking the highest dealmaking level since 2001. Internet startups have seen renewed interest from the venture capital community, with the $4 billion invested representing a 25 percent increase over 2005 levels, Biotech attracted a record $4.5 billion, and energy investments, with an increasing focus on green energy, more than doubled to $1.8 billion.

The retail pharmacy market has also seen a recent uptick in deal activity with both CVS Corp and Rite Aid, the first and third largest drugstore chains in the US, having significant acquisition proposals on the table.

CVS recently sweetened its offer for Caremark Rx, offering to repurchase 10% of its outstanding shares and pay a $2 dividend if the Company accepts its $21.2 billion takeover offer instead of a competing offer from Express Scripts for about $25.0 billion. The acquisition has also received clearance from the SEC, setting up late February shareholder votes at both companies despite the higher competing offer from Express Scripts.

In addition, Rite Aid Corp. shareholders recently approved a deal worth approximately $3 billion to buy more than 1,800 Brooks and Eckerd stores and become the largest drugstore operator on the East Coast. This marks Rite Aid’s first acquisition since recovering from the brink of bankruptcy seven years ago. Despite shareholders’ overwhelming approval of the deal, Rite Aid saw its stock downgraded by Goldman Sachs shortly after the vote, citing a recent 33 percent rise in Rite Aid stock since September and increased operational risks due to the acquisition.

This month’s metric looks at the typical amount of deal-specific valuation information available to investors and business owners when contemplating an M&A transaction. As illustrated in the Exhibit above, revenue multiples were available for 10% of transactions and EBITDA multiples were available for 5% of the over nine thousand M&A transactions in the United States during the last twelve months (note that our analysis is based on the Capital IQ database, which we found has coverage in line with other leading databases).  Moreover, the percentage of transactions for which valuation information is available depends significantly on the target’s industry.

Investors and business owners have access to more valuation multiples for transactions involving Industrial Products companies than for transactions involving companies in either the Software or Business Services industries.  One reason is the inherent maturity of many industrial products targets.  Companies in more mature industries such as consumer goods, manufacturing, steel, construction and chemicals typically have well established business models and longer operating histories. This frequently translates into more financial information being available to outsiders such as lenders, suppliers, customers and industry analysts. Additionally, more mature companies are more likely to be public, in which case outsiders have a high level of financial transparency.

Another observation is that EBITDA multiples (often a more appropriate measure than revenue multiples) are available for about 50% of the transactions for which Revenue multiples are available, a proportion that does not vary significantly per industry group.