Investors largely ignored political instability in emerging Europe in 2018, as the value of M&A deals in the region soared by 20.1% during the year, according to a report published by law firm CMS in cooperation with information service EMIS.
Deal value across the region reached €80.5bn, the second-highest value in the last five years, in 2018, which the “Emerging Europe M&A Report 2018/19” said was “fuelled by string of ‘megadeals’” in the telecoms and IT sector in particular.
And while deal making in Russia, still the top location for deals in the region, remains subdued, appetite for M&A was much stronger in the Central and Southeast Europe regions, despite the rise of populism and “illiberal democracy”, spreading protests and other forms of political instability. This is in line with bne IntelliNews’ observation that while “Planet Politics” is in a terrible state in much of the region, “Planet Business” is much healthier.
“There is little evidence that widespread political protests or instability deterred investment in emerging Europe in 2018,” said the CMS/EMIS report.
On top of emerging Europe’s long-term position as a gateway to Western Europe, the CMS/EMIS report considers that the region’s “fast growing and maturing economies make it an attractive market in its own right”.
This was helped by continued strong economic growth across emerging Europe, combined with a stable international economy, said the report, which “created a conducive environment for deal making in 2018”.
“M&A activity has been surprisingly buoyant. Markets have reached a size and level of sophistication that makes them more aligned to western European expectations and standards and that is reflected in interest from international investors including private equity funds and corporates,” said Helen Rodwell, partner in the CEE corporate practice, CMS, in the report.
Setbacks for Russia
Russia, while still the location of the largest number of deals in the region (605), is the exception to the generally rosy picture seen across the CEE region. It experienced a 10% fall in the number of deals and a 26% fall in deal value to €27.1bn — the lowest since CMS started publishing the annual report in 2012.
Commenting on the fall in deal-making in Russia, the head of EMIS’ M&A database, Stefan Stoyanov, said: “Foreign investors and significant transactions in Russia continued to be scarce in most sectors besides oil & gas, chased away by various bans and diverging opinions on the continuation of imposed Western sanctions. … This year’s two largest transactions aside, most M&A was driven by domestic activity. However even that could be declining, as many Russian companies have begun to spend their free cash on buying back own shares instead. Local market analysts have expressed fears that should this become a trend, it could result in a wave of company delistings from the Moscow Exchange.”
Elsewhere in the region it was a very different story. In terms of deal volume, Russia was followed by Poland, the second most active country in the region, with 323 deals in 2018, of which almost a quarter were in the Real Estate & Construction sector. The second-largest country among the new Europe EU members, Romania, experienced a significant rise in M&A deal value in 2018, again despite serious concerns over the undermining of the anti-corruption fight and outspoken attacks on multinationals by the ruling party. Meanwhile, the original illiberal democracy from the region, Hungary, saw a 70.5% rise in deal value.
Despite the tanking of the Turkish lira and the increasingly authoritarian politics, Turkey saw the aggregate value of M&A nearly doubled to €14.8bn due to two very large banking deals, while activity remained stable. The report notes that, “Some companies may be forced to consider deleverage options (indeed, the largest deal in the country in 2018 was the debt restructuring of Turk Telekom), creating opportunities for foreign investors to enter local businesses at favourable valuations.” Such low valuations — also identified in a recent bne IntelliNews feature — have attracted Chinese potential buyers in particular.
Deal value and volume in the smaller markets of Southeast Europe can’t compare to the CEE heavyweights Russia, Poland and Turkey, but the region is home to several rising stars. EU candidate country Albania saw the region’s highest y/y growth of a staggering 1,054.5% on deal value and 300% on deal volume. Nearby Serbia also saw a 737% hike in deal value, while deal volume was up 40%. Slovenia is seen as another rising star from the region.
On the other hand, there is no guarantee such a high level of deal-making will continue in the small Southeast European economies. “There is a lot of potential for growth and development in the Balkans which is why it is attracting interest from international investors. The challenge for them is the availability of the right targets,” commented Radivoje Petrikić, partner in CMS' CEE corporate practice
China had been the largest foreign investor emerging Europe by value in 2017, but was pushed out of the top spot in the latest report by the UK and the US.
“This marks a shift from 2017, when China dominated the table by value, owing in large part to the $9bn CEFC China Energy-Rosneft deal. Without the presence of this Chinese megadeal, China slipped down the table to fifth place by foreign investors in 2018,” said the report.
2018 also saw a souring of several of the major Chinese deals over the last few years, in particular the investments by troubled CEFC.
China "is now firmly established as a major player in the region, whether through one-off investments or projects that form part of the country’s One Belt One Road initiative. However, enthusiasm for Chinese investment may be tempered by events at the CEFC conglomerate …There was a further blow to confidence in China’s international expansion in December when the head of a think tank associated with CEFC China Energy was convicted by a US court of corruption in Africa”. And there is more: “the potential tensions and sensitivities around working with Chinese companies have also been highlighted by a warning from the Czech cyber security agency NCISA that hardware and software from Chinese telecom company Huawei posed a security threat – a claim strongly denied by Huawei,” the report adds.
Despite all the uncertainty surrounding Brexit — which is expected to have a largely negative impact on CEE economies along with those in other parts of the EU — the UK was the largest foreign investor in the region by value in 2018, mainly because of major telecoms deals closed during the year.
Overall, UK-based companies accounted for €9.77bn worth of deals in 2018, while US companies closed 89 deals, making the US the largest investor by volume.
There are naturally concerns among investors about the fallout from the UK’s imminent exit from the EU. “It is a very complex negotiation and uncertainty still surrounds many of the practical details,” said CMS CEE managing director Dora Petranyi. “Maybe we will see activity slow down because of the uncertainty, but we haven’t seen much of that so far. We will have to see how it affects travel and delivery of goods in and out of the UK. The bigger concern is whether this is the start of a prolonged period of disruption for the EU as a whole.”
On the other hand, Petranyi also sees opportunities for countries in the CEE region, which she sees as a “logical place to come to” for companies considering moving production or services from the UK to continental Europe.
Going forward, deal doing in 2019 will depend on a variety of factors, both internal and external. “Perhaps the biggest threat to continued growth and the healthy M&A market in emerging Europe is what happens outside its borders,” says the report. “Provided the global economy remains on track, emerging Europe’s strong growth, expanding domestic markets and evolving legal and professional services ecosystems should provide investors with the confidence that they can do business in the region and maintain momentum in M&A activity.”
On the other hand, there are major external risks to the outlook, not least a potential crisis in Italy: “Should Italy face major difficulties in repaying its debt, a chain reaction could trigger spillover effects as severe as the Greek crisis in 2010,” according to the report.
Within the region, growth rates by and large look healthy, especially when compared to the ongoing slowdown in the Eurozone, the US and Japan. EMIS’ Stoyanov also anticipates that, “Once the uncertainty around Brexit is resolved, there could be some uptick in M&A as investment plans put on hold are likely to resume. Free capital at PE and pension funds will not sit idle for long and although the general feeling is that the region might be turning a bit more volatile than before, the challenges will surely also create opportunities for those quick to adapt and with deep pockets.”
There are some reasons to be cautious. “Regardless of 2018’s positive numbers, in many countries from the emerging Europe region and particularly in Southeast Europe, M&A is still driven by consolidation, privatisation and random, country-specific, factors. The former will not last forever, while the latter are not guaranteed in each year.”
And while the politics of most countries (aside from Russia) have not dented enthusiasm for deal-making yet, the report warns that investors “they will be looking for stability in the coming years, particularly in those countries holding elections in 2019 such as Poland and Ukraine.”
On the whole, however, the CMS/EMIS report takes a positive view, anticipating continued investor interest in the emerging Europe region. “It is now a popular school of thought that an imminent slowdown in emerging European markets is due simply on the basis that they have performed so well for a prolonged period of time. Trepidation founded on this reasoning alone is overblown,” says the report.
“Equally, while there are causes for concern with respect to global economic developments and various potential political crises on the radar, it is difficult to make the case that internal or external threats to the region’s M&A activity are any higher than they were in comparison with the outset of 2018… If anything, uncertainty has diminished and stability has increased as the markets continue to mature.”