Taking advantage of M&A activity

Global mergers and acquisitions (M&A) hit new highs in 2021 – and a bumper number are expected to take place over the course of this year.

According to a report from accountancy giant PwC, the 62,000 deals announced last year had a combined total value of more than $5tn *. This was 57% higher than in 2020 and smashed the previous $4.2tn record set in 2007*. They also included 130 megadeals in excess of US$5bn*.

Separately, research by Schroders reveals that a third of the major companies on the UK stock market a decade ago have vanished – with half going to foreign buyers**.

The study found that 126 stocks had departed since the end of 2011, with 68 having been bought by public and private companies overseas**. These included famous names such as SABMiller, Shire, Sky, and ARM Holdings. The biggest buyers by far have been US public companies, followed by Canadians**.

The situation in the UK contrasts with the US, where the biggest buyers have been other US public companies. It means US stock market investors have retained an interest in a company’s ongoing prospects, albeit as part of another public company and not on a stand-alone basis.

It is also different to continental European markets. Only 30% of French companies that de-listed, and 25% of German ones, were acquired by overseas buyers**.

Positives and negatives of M&A activity

It’s not hard to see why shareholders are tempted by such approaches, according to Duncan Lamont, head of strategic research at Schroders. “The need for a buyer to offer a takeover premium over the share price provides a juicy incentive for shareholders to sell,” he said.

This means a company’s stock price can soar on the back of interest from another company, regardless of whether its management backs a deal.

However, he highlights potential downsides. “The risk is that it puts short term profit ahead of longer-term potential gain,” he explained.

Suitors won’t offer a premium for altruistic reasons. It is usually because they believe that ultimately the business will be worth much more to them. This can be down to business synergies, with costs likely to be shaved, as well as the opportunities to grow the business in the future.

Another reason for the enthusiasm of overseas buyers may be that they view the stocks as undervalued. “The UK stock market has been trading at an ever-wider valuation discount to global peers,” argued Duncan Lamont. He also pointed out this was true for most industries. “So, it can’t just be blamed on the UK having a larger exposure to energy and materials companies, and lower to technology, than the high-flying US,” he added.

Of course, it’s not just foreign companies buying UK firms. There are plenty of examples of UK companies making overseas acquisitions.

The value of deals in which UK firms acquiring overseas firms rose from £15.5bn in 2020 to £46bn last year, according to the Office for National Statistics***. It included AstraZeneca’s acquisition of Alexion Pharmaceuticals of the US for £29.8bn***.

UK fund options

So, which funds are worth considering if you want exposure to the UK stock market – and, potentially, the benefits of M&A activity?

Obviously, companies of all sizes are listed on the London Stock Exchange. As a result, there are a wide variety of investment funds focusing on them.

Here we look at funds that invest in large, medium and smaller-cap companies.

Jupiter UK Alpha 

The experienced Richard Buxton manages this portfolio. He favours a high conviction approach with 35-40 stocks in the portfolio. These are mostly large UK companies with strong business models and healthy balance sheets.

The largest sector allocation is currently in consumer discretionary firms, with 21.5% of the portfolio, followed by financials, materials, healthcare and industrials^. Utilities, energy and IT are among the others.

The fund’s 10 largest holdings include pharmaceutical giants AstraZeneca and GlaxoSmithKline, miners Rio Tinto and Glencore, and both Lloyds and Barclays banks^.

ASI UK Mid Cap Equity

As its name suggests, this fund primarily invests in UK mid-cap companies as it believes these stocks offer the prospect of higher returns than large caps.

It aims to invest in UK-based businesses that are well established, but which still have a long runway of growth potential. These will generally be found in the FTSE 250 index.

The fund’s manager, Abby Glennie, looks to generate growth over the long-term, which she defines as being a minimum of five years. Her top 10 holdings, which currently account for just over 33% of funds under management, include media company Future, and software reseller Bytes Technology Group^^.

Unicorn UK Smaller Companies

If you’re wanting exposure to smaller companies in the UK, then this high conviction portfolio is worth considering. The aim is to achieve long-term capital growth by investing primarily in UK companies included within the Numis Smaller Companies plus AIM Index.

Simon Moon, its manager, focuses on company fundamentals and aims to make long-term investments, while avoiding low quality, cash-burning businesses. “The fund’s bias towards companies trading on relatively attractive valuations offered a degree of protection against the broad-based sell-off in highly valued growth stocks,” he said.

The largest sector exposure in this fund is currently engineering, at 23.1%^^. This is followed by building and construction, food production and financial services. Top holdings include Tortilla Mexican Grill and Braemar Shipping Services^^.

*Source: PWC, Global M&A Industry Trends: 2022 Outlook
**Schroders, Are overseas takeovers a threat to the UK stock market? 7April 2022
***Source: Office for National Statistics, Mergers and acquisitions involving UK companies, annual overview: 2021, 11 March 2022
^Source: fund factsheet, 28 February 2022
^^Source: fund factsheet, 31 March 2022

Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the author and fund managers and do not constitute financial advice. Reference to specific securities is for illustration purposes only and should not be taken as a recommendation to buy or to sell.