Merchant bankers may sneer at accountants and call them ‘re-sprayed auditors’, but the jibe sails by quite harmlessly. Indeed, it makes accountants laugh. Over the past few years, the top firms have hired enough ex-merchant bankers to populate a small town. And, as Ian Jamieson, senior partner at Deloitte & Touche corporate finance, says, ‘There is very decent money to be made in the middle market.’
Of course, deals like the recent Time Warner/AOL extravaganza, or, closer to home, the NatWest takeover, generate fee levels that dwarf mid-market returns. So, while the investment banks would like to pay attention to their mid-market book, they do find it difficult to think about a percentage or two of hundreds of millions of pounds, when they are busy calculating the same percentage on several tens of billions.
Deloittes intends to be a global merger advisory house and is working to leverage its global network of offices to achieve this – as are Andersens, Ernst & Young, KPMG and PricewaterhouseCoopers. Right now, Jamieson reckons that the upper limits of his department’s expectations would be for a smattering of billion-pound deals, a good seasoning of half-billion-pound deals and plenty of fifty-million and upward deals. That kind of work, he points out, is good business however you slice it.
Moreover, as PwC corporate finance division partner David Leslie notes, jibes from investment bankers have to be taken in context. In any competitive arena where players represent a serious competitive threat to one another’s businesses, you are going to get some sharp comments flying about. ‘We expect the odd remark or two. There is no doubt that in the past five years the profession has made substantial inroads into what used to be merchant banking territory in the £10m to £250m deal size,’ he says.
What the league tables now show is that the big accountancy firms are doing a very large number of transactions at this level. PwC, of course, has fared rather better than most in the league tables. The merger of its two constituent parts allowed it to double up Coopers’ and PW’s deal volumes, propelling PwC into the bottom end of the top ten in terms of deals done. In all, the firm did a total of 334 deals globally through 1999.
Leslie points out the obvious fact that although the banks and the accountants compete on one front, on several others they are symbiotic, each adding value to the other. Not only do the banks look to the accountants to do due diligence work for them on deals of all sizes, the accountants have to pay attention to the banks when it comes to underwriting and distribution – they have no such capability themselves.
In the eyes of the big five, of course, this lack of a distribution capability is a plus, not a minus. As Leslie puts it, ‘Our whole play in this market has been to stand on our independence from the money side.’ He also points out that even the largest investment bank can’t compete with the global networks of any of the big five firms. ‘If we need to find strategic partners or buyers anywhere in the world we can energise our networks very quickly to find what we need,’ he says.
Leslie also argues that the accountancy firms have done well from specialising in industry sectors. Gone are the days when PwC and other top firms acted purely as vanilla MBO houses. PwC’s own broad categories, for example, include technology companies, consumer packaged goods, industrial products and private equity, with technology a current favourite. ‘We were involved in more than 40 technology-related deals in Europe last year. We did four out of the last six dot.com IPOs in the UK, while in the US we did the Yahoo! IPO and Doubleclick amongst others. In the last month we have won significant business against merchant bank competition in this area,’ he says.
There is no doubt that corporate finance work now makes a significant contribution to the overall profit levels at the big firms. Keith Hunt, partner in charge of mergers and acquisitions at Ernst & Young, reckons that work levels are already 80% up on last year. ‘This is definitely one of our key growth areas,’ he says.
At their level of the market, the accountants are confident that they can beat the investment banks at their own game. ‘We recently competed for a disposal mandate for a UK Internet company and the opposition included a couple of US investment banks. The client realised that while the US banks were showing interest, this was not their core deal size. This factor, plus our multi-disciplinary approach and our global network, made the difference,’ Hunt claims.
The past three years have seen a real acceleration in mid-market deals and a transformation in the market, he adds. ‘The investment banks took their eye off this ball while they got involved with mergers and buy-outs between themselves. At the same time, company CEOs started to realise that the accountancy profession’s corporate advisory departments were in a position to offer more value than the traditional investment banks. It has all played in our favour.’
Hunt admits that there is a tendency for M&A advisory work to follow audit, but he points out that this is by no means invariably the case. ‘We do work for other firms’ audit clients. Some company boards are a bit reluctant to disclose their full strategy to their auditors on occasion, so there is always a role for an independent, outside firm,’ he says.
One difficulty with existing audit clients arises if the client is registered with the US Securities and Exchange Commission (SEC), because it has an uncomfortable rule that prevents auditors from taking on M&A and other corporate advisory work on a contingency fee basis. ‘Traditionally, when you dispose of a company, you get a modest amount in fixed fees. The balance is paid as a percentage of the consideration that you achieve,’ Hunt explains. SEC-registered audit clients can’t be paid on that basis, and, although it is not impossible to get a client to agree in such circumstances to a time and materials basis for payment, it makes the whole deal much harder to set up. This is particularly so when the precise selling price of the corporate asset, for example, has a wide spread of possibilities and is difficult to pin down prior to the final deal being done.
Hunt is not impressed by arguments that suggest that corporate CEOs will always prefer the cachet of having a fleet of US investment bank limousines pulling up outside their corporate HQ. ‘We have a very significant brand name in our own right. Boards now are much more interested in the focus advisors can bring to bear on specific transactions. Where, as happened with us, a US investment bank cancels a meeting with the client in order to attend a different meeting with parties to a multi-billion pound deal, the client pretty quickly gets an idea of where they stand in the pecking order as far as that bank is concerned,’ he points out.
On the question of whether Ernst & Young can expect to move beyond the middle market, Hunt says simply that the firm has not set itself any upper limit. ‘Right now, we see ourselves as having a modest share of what is a very big market. There is absolutely no doubt that our clients recognise what we have to offer. We are building our head count and growing our market share and we will keep on growing just as fast as we can manage the growth process,’ he says.
Deloitte’s Jamieson points out that the accountancy firms have, by definition, to approach the whole business of providing corporate advisory services in a different way to the merchant banks. ‘We have to come at it from the standpoint of pure financial advice. A lot of the investment banks make their money out of distribution rather than advice, which is why they have largely abandoned the middle market,’ he says.
Jamieson points out that all sorts of trends in the market are playing very firmly to the key strengths of the big five. A global infrastructure, for example, has become ever more important as clients seek to get not just the best local price for an asset they are divesting themselves of, but the best price obtainable anywhere in the world. At the same time, developments in technology make it simpler for the firms to tap directly in to local expertise in every country. E-mail, video-conferencing, best-practice databases, global knowledge databases – all these are relevant to practices’ claims that they offer a deeper value-added dimension than the banks.
‘If I look ahead to where we are likely to be in five or ten years’ time, it seems to me that we are going to be very nicely positioned in the mid-market, with an increased market share, and doubtless some of our competitors will be there too,’ Jamieson says.