« Return to all articles
« Return to all news items
The Perfect Storm by Tom Gledhill
In October 1991, three weather systems collided off the coast of Nova Scotia to create “the perfect storm,” whose 100-foot waves claimed the sword fishing boat Andrea Gail and its six-member crew. Their story was immortalized in a 1997 book by Sebastian Junger and later in a movie starring George Clooney.
Today, business owners find themselves in the middle of another perfect storm; this one of opportunity rather than tragedy. The three “weather systems” that are currently colliding are low interest rates, low capital gains tax, and the ready availability of money.
This “perfect storm” was the major factor that accounted for the near-record number of M & A transactions in 2006. And 2007 is shaping up to be another great year for business owners selling their companies. Many of our colleagues have never seen anything like it. When asked “How long will it last?”, the typical answer is “maybe a couple more years”. Let’s take a closer look at these “weather systems”.
Historically, when the Federal Reserve raised the interest rates that it charges member banks, long term interest rates (as well as short term rates) would also rise. However, in recent years the global economy has been having a much greater impact on the U.S. economy. Interest rates can be pulled in either direction depending on the actions of central banks and economic conditions in the rest of the world. Right now, the easy availability of credit worldwide is helping to keep interest rates down. This may not be the case for too much longer. The usual result of these market conditions is inflation - which can’t be held in check forever - and when it increases interest rates will rise.
The first President Bush lowered the long term capital gains tax from 28% to 20% and the current President Bush lowered it to 15%. The rate is scheduled to increase to 20% in 2011 if no action is taken before then. Indeed, action to increase the rate could be taken as early as 2009 if the Democrats take over the White House in the next presidential election.
Most measures of credit show that funding continues to be relatively cheap to come by, with banks eager to lend money to acquirers in M&A deals. Past experience shows that banks’ eagerness to lend money for M&A deals is cyclical and it is heading toward the down cycle. Since 2003, corporations have been very active in Mergers & Acquisitions. At some point the corporations need to slow down the M&A process to absorb the acquisitions and reflect on their performance. Corporations amassed the excess cash on their balance sheet through strong earnings and a hiatus in capital spending. Both of these actions cannot be sustained for any length of time.
Private Equity Groups (PEGs) have been extremely active in M&A over the last few years. PEGs have accumulated a vast amount of cash as investors have sought to increase their returns. The PEGs have been under pressure from those investors to buy companies. As a result, many of these acquisitions were not good investments and it is just a matter of time before the PEGs’ pace of acquisitions slows considerably.
All good things come to an end. The “perfect storm” will too. Our colleagues’ “gut feel” of a couple more years may not be far off. Couple the end of the “perfect storm” with the baby boomer generation putting their companies up for sale and it just might be the right time to exit your company.
