More Consolidation Ahead

Consolidation fueled by low interest rates is nearing the end, at least for this round. The U.S. Federal Reserve is looking at another rate increase based upon healthy reports on the economy, possibly as early as September. If all goes well, there will be multiple interest rate hikes over the next few years, allowing investors to build more balanced portfolios that are not entirely reliant on the stock market.

Ultimately, that will limit deals based upon borrowed capital. Between now and then, there will be a transition period, during which companies that have been looking for an exit strategy will flood the market. And, as you’d expect, that will become a buyer’s market, where supply outstrips demand, prices drop, and the price paid is at least equal to or cheaper than the cost of buying those companies in a market with low interest rates. It’s something like the week after Christmas, when retail stores offer huge discounts off the same merchandise they were selling the week before.

In the past couple of years, acquisition fever has reshaped the landscape of the semiconductor industry. It has stripped the market of startups, pushed investments into ventures with quicker return on invested capital, and left the industry with far too little independent R&D experimentation. What R&D remains has been shunted off to universities and consortia such as Imec and government-sponsored programs such as Leti and Japan’s Semiconductor Industry Research Institute.

While that has hardly been business as usual, it has at least been predictable, for the most part. In fact, any business school graduate could probably map out the course of events by following VC investments over time. It will get a little fuzzy about who’s actually doing the buying, particularly in the tech world, because markets will get carved up in unusual ways as more devices get connected and valuable data is compiled in unexpected ways. But viewed at over time, this isn’t that unusual.

Far less predictable is what happens next. While rising interest rates will limit the number of deals based upon borrowed capital, there is still plenty of cash sitting on the sidelines. And in markets where cash is at a premium, the overall value of companies drops. That creates buying opportunities for companies with money in the bank, with or without management’s buy-in.

China’s investment fund is hovering at about $120 billion, according to multiple sources. Japan is beginning to get active in the market again. And on the public company side, the numbers are equally staggering. Apple’s balance sheet shows it is sitting on $61.76 billion in cash. Microsoft has $113.04 billion in cash, Alphabet/Google, another $73.45 billion. Cisco has $63.51 billion, and Oracle $56.13 billion.

That’s a lot of cash, and if company premiums begin to drop, at least some of that will be used to buy other companies when prices drop and cash is even more valuable.

The big question is what these companies—and countries—want to do next. And will they find more willingness to sell once interest rates do rise to the point where exit strategies are far more limited, and government agencies may be more willing to consider sales? These are important questions to begin thinking about, and right now there are no answers.

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