Middle East mergers gain momentum through privatisation and regulatory reforms

Several major mergers were announced in May following an active first quarter of 2018

  
A view of Emirates NBD head office in Dubai, UAE January 30, 2018. Image used for illustrative purpose.

A view of Emirates NBD head office in Dubai, UAE January 30, 2018. Image used for illustrative purpose.

REUTERS/Satish Kumar

The activity of mergers and acquisitions deals in the Middle East and North Africa (MENA) has witnessed a pick-up in activity recently as governments increase the pace of privatisation and regulatory changes in an attempt to transform the investment environment in the region.

The value of announced M&A transactions with any MENA involvement reached a three-year high in the first quarter of this year – up 7 percent year-on-year to $13.9 billion, according to Thomson Reuters data.

Deals with a MENA company as a target increased to $11.2 billion - an eight-year high, and up 50 percent from the same period in 2017, the report added, while domestic MENA deals reached a 5-year high, up by 42 percent on a year-on-year basis.

Energy and power deals accounted for near half of MENA M&A involvement by value, according to the same report, while the financial sector accounted only for 10.7 percent of the region's M&A activity.

The  strong start to the year continued with a number of significant deals announced last month, including Emirates NBD’s $3.2 billion acquisition of Turkey’s Denizbank from Russia’s Sberbank, Abu Dhabi’s Aldar Properties’ acquisition of $1 billion worth of assets at from state-owned Tourism Development & Investment Company, and a merger between the Saudi British Bank (SABB) and Alawwal Bank, which will create the kingdom’s third-largest bank. 

The United Arab Emirates, Saudi Arabia and Egypt have accounted for a majority of the deal flow in the region, according to Romil Radia, PwC Middle East’s deals market and regional valuations leader.

“We do not expect this trend to change going forward given the underlying demographics, regulatory framework, investor focus, as well as opportunities available,” he told Zawya by email.

On a global level, mergers and acquisitions hit a record $2 trillion in year to date, Thomson Reuters data showed, with Europe seeing the highest value of monthly deals in 10 years in April.

However, while improvement in global investor sentiment does help with both foreign direct investment and inbound deal flow, Radia said that he sees limited direct correlation between a recent pick-up in the European M&A market and the expected improvement in deal flow in the Middle East.

“We believe the slowdown in the deal activity in 2016 and 2017 as well as the expected pick-up over the nearer term is more related to region- specific issues,” he added.

Issam Kassabieh, a senior financial analyst at MENACORP, argues that the global pick-up in M&A activity will make its way to the MENA region. He argued that investors are targeting GCC opportunities directly through acquisitions, rather than passively at the moment.

“I believe for the time being, it is all about getting good deals in areas with undervalued currencies,” Kassabieh told Zawya by email.

Regulatory reform impact

The enabling environment for M&A across the region is expected to improve with the regulatory changes which are being implemented, such as loosening foreign ownership rules, according to PwC’s Radia.

For GCC-related M&A deals, the need for regulatory reform and higher flexibility for investors has been the one major factors that has been holding back such transactions for years, Kassabieh argued.

Foreign entities and individuals looking to trade via onshore locations had no option to fully own local companies and had to participate under tight restrictions, which affected the companies’ direction, leadership, and consequentially their financial position, he said.

“When looking at countries such as UAE and Saudi, it is easily notable that strong infrastructure does not provide room for growth if laws and regulations did not permit it,” he said.

In May, the UAE Cabinet approved steps that would allow full ownership of UAE-based businesses by foreign investors in onshore locations by the end of the year - a major reform of the law that currently allows foreigners to own no more than 49 percent of a UAE firm not based in a free zone.

“Therefore, a main reason behind the resurgence of M&A deals or the anticipation of the latter is currently based on the UAE Cabinet’s decision to open up foreign ownership to a 100 percent in selected sectors,” Kassabieh noted.

Saudi Arabia is also embarking on reforms in a bid to make the country more open, allowing foreign investment and new services to be provided, especially in entertainment and retail, he added.   

Corporates looking at growth channels

Corporate and family business may also increasingly look to M&A as organic growth may prove to be challenging across a number of sectors, according to PwC’s Radia.

“Early signs of this are already evident based on what our clients are telling us and the recent deal activity,” Radia said.

He said that 56 percent of Middle East CEOs that had been surveyed by PwC said they were “focused on driving growth via strategic alliances or joint ventures,” he said.

Another factor likely to impact deal volumes, Kassabieh says, is that there are companies that now dominate their home markets and have outgrown their space, which can be witnessed through thinning margins, indicating market saturation.

‘Therefore, (these companies) have started to either consolidate and partner up with other local competitors or attempt an outwards expansion whether regionally or globally. Some examples of these are ‘Emaar and Aldar JV’, ‘Aldar TDIC’ and ‘ENBD & Deniz Bank’,” Kassabieh said.

Emirates NBD, for example, is Dubai’s biggest lender, with total assets of 475.6 billion UAE dirhams ($129.5 billion) at March 31, 2018, according to filed financial statements. Its $3.2 billion deal for Turkey’s Denizbank “would diversify its credit portfolio and reduce its credit risk”, Kassabieh said.

“The devaluation of the Turkish Lira would also ensure the deal is within the buyer’s best interest and it would be a buyer’s market. And later on, as the Turkish economy improves, investors will be able to see the increased performance,” he added.

Aside from that, the Turkish bank has been growing at a rapid scale over the past three years in terms of client base and profits, he added. 

In the Saudi banking sector, consolidation seems to be the preferred route to gaining market share if the deal announced between Saudi British Bank and Alawwal Bank in May is anything to go by. This will create the country’s third-largest bank with assets of around $77 billion.

"Over the last 12 months we have seen a wave of consolidation announcements across the GCC banking sector, as the industry struggles to identify areas of growth following reduced economic activity due to lower oil prices," Salman Bajwa, senior executive officer at Emirates NBD Asset Management, told Reuters.

"In most M&A exercises, the smaller parties tend to benefit from being paid premiums by the bigger partners or acquirers. That is certainly true in this case," Bajwa said.

Given both banks’ well-established corporate banking franchises, the new bank would be the largest domestic corporate bank with a market share of more than 15 percent in corporate loans, according to a note on the deal by credit ratings agency Moody’s. 

Accelerating privatisation

The privatisation agenda of regional governments is likely to gain momentum. which will create investment opportunities for both regional and international investors, particularly within energy and infrastructure, according to PwC’s Radia.

Saudi Arabia, the Arab world’s largest economy, has embarked on a major privatisation drive that covers around 16 sectors, and includes a plan to sell a 5 percent stake in energy giant Saudi Aramco.

The UAE capital also plans to overhaul several state companies through privatisation. Abu Dhabi’s sovereign wealth fund Mubadala, which last year merged with state-owned International Petroleum Investment Company, will sell a stake in Emirates Global Aluminium (EGA) through an initial public offering in the second half of 2018.

UAE’s national energy company Abu Dhabi National Oil Company (ADNOC) is looking at selling stakes in some of its service units, after the sale of 10 percent of its distribution arm last year.

The planned diversification of economies away from oil, as well as the ongoing focus on digitisation of economies, is opening up interesting opportunities in newer sectors, particularly those connected with or influenced by technology, according to Radia, who said that deal activity increased in these sectors in 2017 and PwC expects this trend to continue.

Menacorp’s Kassabieh echoed a similar view, saying that “technology is the biggest underdog that does not exist here and I believe fintech will bring this into several sectors, including retail and financial services”.

He added that other sectors likely to attract more M&A activity in the region are insurance, education and healthcare.

“I believe the trend has yet to begin and when it does, it should last a while, two-to-three years, based on how flexible the reforms are (in terms of which sectors, degree of foreign ownership, corporate tax laws, ease of business startup, development of business law, access to financing),” Kassabieh said.

PwC expects the deal market to gain momentum towards the end of 2018 and 2019, given that the impact of regulatory changes may take some time to feed through before it results in deal completions.

“We would expect this momentum to continue into 2020 as the transformation reforms progress further and the opportunities created by Expo 2020 in UAE,” Radia said.

(Reporting by Nada Al Rifai; Editing by Michael Fahy)
(nada.rifai@thomsonreuters.com)

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