Scotland’s deal market hit by Brexit uncertainty

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As this year has progressed, the turmoil around Brexit has intensified and made it increasingly difficult to predict the future for all businesses and for investors to pick out the performers most likely to excel.

Despite such uncertainty, deals continue to be done in Scotland and money is coming into the country for companies that can prosper during tumultuous times.

But analysis of the market shows that there was a drop in both the volume and value of deals in the first six months of 2019 compared to the same period last year.

Experian’s merger and acquisition (M&A) review for the first half of 2019 revealed that Scottish M&A activity declined in 
volume by 10.5 per cent to a total of 348 from 389 in the same period last year. Over the same time, deal values dropped 41 per cent to 
£5.6 billion from £9.4bn.

Scotland was not alone in seeing a decline in deals, with Experian saying: “An unsettled outlook has led to a slight cooling of deal activity in the UK so far this year, with first half deal volumes falling to their lowest level since 2015 and more than £150bn shaved off their total value on a year on year basis.”

Scotland accounted for 6.5 per cent of all UK deal values and 
10 per cent of deal volumes in the first half of this year.

North of the Border, big value deals seem to have been hardest hit with large cap deals dropping 50 per cent, while mid-market deals fell by just over a quarter.

The other end of the market has fared better, with small cap deals up around 3 per cent in volume, accounting for just under 70 per cent of the total number of deals recorded.

Closer examination of the Scottish market shows that two ‘mega deals’ – totalling £3bn – contributed more than half the value of M&As in the first six months of the year.

The largest deal recorded in Scotland in the first six months of 2019 was in the oil and gas sector with North Sea oil and gas operator 
Ithaca Energy’s purchase of Chevron North Sea for £1.6bn.

The acquisition of Renfrew-headquartered global engineering 
business Howden Group was the second largest deal of the year. New York-based private equity investor KPS Capital Partners paid £1.4bn to acquire the company from US owner Colfax Corp in May.

Callum Gray, director, head of deal origination, corporate finance, at chartered accountants and business advisors, Anderson, Anderson & Brown (AAB), says his firm has been busy on deals across a wide range of sectors – and completions so far
this year are up.

“We fit into that small cap size and we are naturally busy because they are up. For the bigger deals, there’s probably an element of waiting for the market in a lot of places,” he explains.

In previous years, given AAB’s strength and reputation in Aberdeen, deals tended to be dominated by oil and gas, but this has now balanced out. “There are a couple of reasons for that,” says Gray. “In terms of our own business, we have established ourselves in Edinburgh and that naturally lends itself to the likes of life sciences and technology businesses.

“But we are still busy in oil and gas in Aberdeen.”

Deals he points to outside Aberdeen, in which AAB assisted, include Mercia Fund Managers’ investment in Scottish education software firm GeckoLabs, to allow it to grow its team and expand its operations in North America. Another example he gives is Panoramic Growth Equity investing millions into Manchester-based connectivity specialist, Vaioni Group.

Gray explains: “What’s interesting about those two deals is that they are both Scottish-based investment companies putting capital into English businesses, and both are in the areas of IT and communications.”

Another theme Gray has identified is that, across the UK, acquirers are being more strategic in the businesses they are looking at.

“The focus now is on getting away from buying businesses for pure volume,” he says. “There is definitely a far more embedded interest from investors in asking ‘what does the acquisition add?’ For example, will it get them into a new geography, is there a new technology, or is it about people and skill sets?

“What we are often finding is that acquisition targets are being identified to provide a more bundled service offering.

“You can see there is more thought and diligence going into the acquisition from a market research point of view. Therefore, there is a more direct and targeted approach about the types or businesses acquirers are after.”

Shuna Stirling, head of corporate and commercial at Brodies law firm, says inward investment continues to hold strong, with Scotland retaining its position behind London as the second most attractive place in the UK for overseas buyers.

She adds: “This is particularly the case for the hotels and leisure industry which has seen a surge in activity over the past 12 months, thanks to the popularity of our main cities as well as Scotland’s answer to Route 66, the NC500.”

While she says lending levels have not quite matched the pace of 2018, the rise in popularity of crowdfunding has provided businesses – both start-ups and established enterprises – with an additional option to secure finance.

Recent deals that Brodies has advised on include Orbital Marine Power in Orkney on its offer of green finance bonds to the public through ethical investment platform, Abundance Investments.

Some £7 million was raised – the platform’s largest to date – and will fund construction of the UK’s first floating tidal stream turbine to go into commercial production.

Looking ahead, Gray believes deal activity will pick up. “That would be be my outlook,” he says. “In certain sectors there is a bit more confidence surrounding the dynamics of a market. I suspect there is momentum in the market place. We’re seeing this already in terms of the small cap field.”

While he does not think Brexit, and specifically the prospect of a no-deal withdrawal from the EU, is stopping transactions, he does say it could be causing delays.

North Sea buoyant amid downward trend

Although there has been a softening in the number of large deals compared to last year thus far, an exception to this rule is the continued activity seen in the North Sea basin as majors and super majors continue to divest their UK asset portfolios and look to focus their resources elsewhere.

This continues to fuel a conveyor belt of deal flow with these large deals being completed by businesses often supported by investment from overseas buyers, such as Chrysaor’s acquisition of the Oil and Gas Business of ConocoPhillips UK, Petrogas NEO UK acquiring Maersk assets from Total and Ithaca’s acquisition of Chevron assets.

Looking ahead, the North Sea basin remains an attractive option for investment and the appetite from smaller, nimble operators remains high in terms of further deals.

Based on this, I anticipate seeing further transactions taking place for the remainder of this year and into next.

Callum Gray, director and head of deal origination, corporate finance, at Anderson Anderson & Brown

Tech and life sciences up tick as who dares wins

While recent reports have pointed to the need for Scotland to stimulate and retain more high-growth businesses, the deals landscape across the country over the past 12 months has been dominated by those who are daring in their ideas, products and services.

The life sciences and tech sectors have been particularly active, with a broadening recognition of their high growth potential resulting in a mix of businesses within each industry changing hands and funding being sought to enable expansion.

In the oil and gas sector, a desire to extend margins and increase returns from ageing assets means that dealmakers have had to become more innovative, through the delivery of unique and often ground breaking financial structures.

Shuna Stirling is head of corporate and commercial at Brodies

This article first appeared in The Scotsman’s Deals 2019 supplement. A digital version can be found here.