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Round table: Core Strength

1 Dec 08

Senior members of Scotland’s corporate finance community had a lot to talk about when they met, but as Robert Outram reports, their conversation was by no means all doom and gloom

by Robert Outram

Gathering some of the leading lights from Scotland’s corporate finance community to discuss the state of the market might, at present, look like an opportunity to watch grown men weep. But financiers and advisers are made of stern stuff, and the CA Magazine/Dundas & Wilson corporate finance round table chaired by D&W’s head of corporate finance Michael Polson, was the perfect forum to take a hard-headed look at the business environment and the challenges it presents.

As Ernst & Young’s Alec Carstairs put it: “It’s been an unprecedented time for all of us. Some may remember other recessions but not at this pace of change. Business plans are having to change by the day and by the week.

“The number of deals has dropped dramatically, across all sectors and no sector has been unaffected. But there are opportunities, if you are bold enough.”

Jack Ogston of Clydesdale Bank said: “It is hugely uncertain in most sectors, which means deals either don’t get done or they take longer. But there will be bargains for those with equity.

“There is a danger that we talk ourselves into a self-fulfilling prophecy which the fundamentals don’t really warrant, and the media have had a large part to play in that.”

He added: “There are a lot of businesses with a good underlying core and there is an opportunity for all of us [in corporate finance] to bring something to the party. That may not mean deals in the next 12 months, so much as looking at how you can take the relationship forward over the next two or three years.”

What about the private equity houses? Shaun Middleton of Dunedin Capital Partners said: “Private equity houses that have done a number of deals in the past 18 months may not be looking to do many more, because they will be dealing with any potential issues in their existing portfolio. Others are looking positive but there is still an imbalance between what we want to put in place, what the banks want to lend and the risk/reward profile of a potential envestment, Vendors’ price expectations are still high.”

KPMG’s Bruce Walker believes that the gap between vendors’ and acquirers’ price expectations will eventually close. He said: “It will take a bit of time, but transactions will happen; they will simply be different shaped transactions.”

“You need a trigger to make a sale happen,” Middleton argued. “If you have a good business run by good people, owners will not want to sell right at the moment on the distressed vendor side and a lot of the banks don’t want to crystallise their loses until after the year end.”

Alec Carstairs of Ernst & Young added that business efficiency was a major concern. He said: “I’m amazed at the number times that our restructuring people go into a company and find they can make improvements through things like getting the bills out on time!”

Grant Thornton’s David Cockburn said “There are deals still being done, and it’s the corporates that are looking at where they are sitting strategically, and at where they want to be in the next few years, that are going to be driving those deals.”

Gavin Hood, a corporate finance partner with Deloitte, agreed: “The trigger for a deal isn’t always ‘stress or distress’. It may be that the vendor is looking to redeploy its capital more effectively elsewhere. For example, where an entrepreneur sees value in current markets.”

Bank of Scotland’s Alasdair Gardner said: “This is the first recession we will have experienced where there has not been liquidity. It will all depend on how soon confidence comes back into those markets.”

Liquidity is critical, Craig Armour of Lloyds Development Capital agreed, but he added: “The other ‘elephant in the room’ is deleveraging. Something may look cheap but until there’s a platform you can put your equity on, it is very difficult to do deals.”

Bank lending has not ground to a halt, however, argued Kenny Stewart of Royal Bank of Scotland. He said: “Multiples have come down but banks, in the space we operate in here in Scotland, are still lending.”

The panel met shortly after the announcement of large-scale government intervention to restore confidence in the banking system. Michael Polson, head of corporate finance at Dundas & Wilson, who was in the chair, asked: “Do you feel it has helped? What is the impact going to be?”

Mike Beveridge of Simmons & Company International, energy sector finance specialists said: “It was smart to force banks to revisit their capital ratios, and offer to underwrite that capital. I think it’s a good solution and the rest of the world appears to have adopted it.”

Clydesdale Bank’s Jack Ogston said: “Globally there also needs to be concerted action. There is only so much the UK government can do.”

As well as a capital injection from government, banks are bracing themselves for a wave of new regulation. What will that look like?

Craig Armour said: “There will be a greater focus on protection for depositors and criteria for deposit taking. The lack of clarity on protection contributed to some of the recent panic and exposed the government's political position as lender of last resort.”

Dundas & Wilson’s Douglas Crawford said: “New regulations are likely to focus on liquidity and capital adequacy, and one would expect the Financial Services Authority, will acquire some extra teeth.”

Alasdair Gardner pointed out: “It’s liquidity that has been the problem, and if you create a tougher liquidity rule you reduce liquidity in the market.”

Douglas Crawford added: “The banks will want to repay their government debt as quickly as possible, which will also mean less liquidity.”

David Cockburn said that role of government should be “to rebuild confidence in the financial sector, rather than micromanaging it”.

Michael Polson asked: “Over the past couple of years we saw the distinction between debt and equity becoming rather grey. Will we go back to seeing more defined roles for debt and equity?”

KPMG’s Bruce Walker argued: “High earnings multiples were driving that convergence. It will have to come back to some sort of normal level and then you’ll find much more straightforward deal structures. Prices paid have driven more aggressive financial structures.”

Shaun Middleton said: “If you’ve gone into a reasonable business, and if you can hold it for five, six, seven or maybe eight years, you should still make money. Maybe not a fantastic return, but you’ll still make money.”

“We are really talking about two markets,” Kenny Stewart argued. “Much of what we are talking about applies to big ticket deals, where the big multiples were to be found. In Scotland, the deals we were doing were very much in the mid-market, and not at unsustainable levels.

“Much of our work over the past year has been in the oil and gas sector where the fundamentals are still strong and, largely, leveraged capital structures are very robust.”

Are Scotland’s corporate finance specialists increasingly looking overseas for deals or sources of capital?

“Undoubtedly,” said David Cockburn, “most sales will have an international buyer or at least an international buyers’ list. We see quite lot of capital from the Middle East, India, and the Far East, though much less from the US now.”

Jack Ogston said: “You follow your customers and many of ours are operating in a global market now, but going international just for the sake of it is a high-risk strategy.”

Mike Beveridge said: “In Scotland, and in Aberdeen in particular, we have a centre of excellence in corporate finance for the oil services industry and E&P [exploration and production]. Scotland has a reputation for producing highly valued professionals.”

“Buyers for UK businesses are increasingly coming from China and India,” Craig Armour added. “They are looking for distribution channels in the UK.”

Simmons’ Mike Beveridge said: “Our Dubai office probably represents the biggest opportunity for our firm. There is an enormous amount of capital looking for investment opportunities.”

Gavin Hood said that Deloitte has set up a joint venture with its Middle East practice. He said: “We see a significant opportunity to grow our corporate finance business in that market.”

Beveridge added: “We shouldn’t underestimate the quality of people in the UK, in professional services and finance generally. It’s a sophisticated, experienced and vast community, and there’s a phenomenal work ethic.”

Michael Polson said: “The challenge is to also demonstrate our expertise outside the energy sector.”

Back in Scotland, however, even before the recession, there has been concern about Scottish plcs being taken over. Arguably, large listed plcs such as Scottish Power or British Energy do not use local firms as their lead corporate advisers. Gavin Hood, however, said: “There is a wider impact on the Scottish economy and not just on professional services, and that cannot be a good thing. You need new businesses and new sectors to emerge.”

David Cockburn said: “It’s not so much about size, it’s about the ability to create wealth, and generate a talent pool.”

Alec Carstairs argued: “You cannot rely on large plcs being around forever. Let’s not get upset about Scottish Power or any of the others being taken over, let’s generate new companies.”

The panel was asked: “Where is the silver lining? What do we feel positive about?”

Alasdair Gardner said: “One positive is that we will get back to doing what we’re good at, in other words, structuring deals.”

Mike Beveridge agreed: “In a rising market it’s easier to put deals together. Now you’ve got some real challenges and that should be an opportunity for quality to shine.”

As Craig Armour pointed out, “Corporate finance thrives on change,” and there is plenty of change ahead. Kenny Stewart was bullish: “Overall, the last 18 months to two years have been exceptional in terms of deal flow in Scotland, especially in the oil and gas sector. As a bank we’ve participated in 40 deals lending over £1 billion. Things are changing but we are still doing deals and expect more next year.”

“There are still deals to be done,” Douglas Crawford agreed, “but the challenge is doing them in this economic environment.”

“We just need a period of stability to enable some confidence to return,” was Gavin Hood’s view, while Mike Beveridge said: “Now it’s up to private equity to do what equity is supposed to do, that is take risks and make good returns. There will be fewer leveraged buyouts and they will be for lower multiples, but there will be opportunities for private equity.”

So, finally have we learned the lessons from the credit crunch? Jack Ogston was not convinced: “In five, seven, nine years’ time it could happen again, under different circumstances.

People move on and greed manifests itself in a different way!”

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