Q2 2013:
Deal Flow Still Slow, but Hope Springs Eternal

The lackluster pace of middle-market dealmaking in the first quarter of 2013 slowed even further in the second quarter, with dealmakers continuing to point to the busy fourth quarter of 2012 as the culprit. Looking at transactions worth $1 billion or less, only 418 managed to close in the quarter, according to Thomson Reuters. That’s a 5 percent drop from the 437 deals that were completed in the first quarter and about 25 percent less than the 513 middle-market deals that closed in the second quarter of 2012. At $53.7 billion, deal value was slightly higher in the second quarter than the preceding quarter’s $52.8 billion but lower than the same quarter a year ago, when deal value came in at $65.3 billion.

Topping the list of mid-market deals that were completed in the quarter is Moon Township, Pa.-based Atlas Pipeline Partners LP (NYSE: APL), which acquired Teak Midstream LLC, a processor of natural gas in the Eagle Ford Shale of south Texas, for $1 billion in cash. The deal reflects the wave of M&A activity we’re seeing in the energy sector.

Other notable transactions include private equity firm Onex Corp.’s (TSX: OCX) purchase of Nielsen Expositions, a tradeshow operator and subsidiary of ratings agency Nielsen Holdings NV (NYSE: NLSN), for $950 million, as well as Sycamore Partners’ purchase of pop-culture retailer Hot Topic Inc. (Nasdaq: HOTT) for about $625 million—two deals that are emblematic of PE focus on brand name properties that resonate with consumers.

One of the most celebrated deals that closed in the quarter falls just outside our $1 billion definition of a middle-market deal. With a price tag of $1.1 billion, New York blogging service Tumblr Inc. ranks as Yahoo Inc.’s (Nasdaq: YHOO) fourth-biggest acquisition and the largest made by Marissa Mayer since leaving Google Inc. (Nasdaq: GOOG) to become CEO of Yahoo in July 2012. The once-struggling Yahoo has become an M&A machine, picking up 10 other companies over the past 10 months, including four announced in May.

Despite the down quarter, dealmakers remain optimistic about the balance of the year. “We have an abundance of capital available in the debt markets, private equity funds with a fair amount of capital at their disposal—all of these things should be factors to show an increase in M&A activity,” says Ted Koenig, chief executive of Chicago-based lender Monroe Capital LLC.

Based on anecdotal evidence, deal flow may have already started to pick up a bit. “What we’re finding now is we’re having a lot of discussions with potential sellers about exiting properties,” says Bill Roman, a managing director at Harris Williams & Co.

Certainly, there were some very big deals announced in the second quarter. Valeant Pharmaceuticals International Inc.’s (TSE: VRX) $8.7 billion deal for Bausch & Lomb Holdings Inc., the eye-care company owned by Warburg Pincus LLC, was one of the largest announced purchases, followed by Shuanghui International Holdings Ltd.’s offering to pay about $7 billion for the world’s largest pork producer Smithfield Foods Inc. (NYSE: SFD), in what is considered the biggest Chinese takeover of a U.S. company. Then there was the $2.65 billion sale of Longview Timber LLC to Weyerhaeuser Co., a U.S. real-estate investment trust that owns timberland, in what was considered the third-biggest forestry acquisition in North America.

The middle market also saw its share of promising deals announced including the $600 million acquisition of Paris-based Neolane by Adobe Systems Inc. (Nasdaq: ADBE), a deal that underscores the continued buying up of cloud-based properties that aid in streamlining communication and marketing services. There was also the $403 million purchase of MakerBot Industries LLC by Stratasys Ltd., a maker of printers that can create three-dimensional objects. The deal underscores the uptick in M&A activity across the 3-D printing sector—a space that is bound to see more consolidation, according to Watermill Group’s Ben Procter. Late in the quarter, private equity firm Sun Capital Partners announced that it was picking up 1950s-style burger chain Johnny Rockets for an undisclosed price. The transaction marks the firm’s first platform investment in the restaurant sector in about two years.

Plenty of properties also went up for sale in the second quarter. Actuant Corp., a manufacturer of tools, announced in June that it was seeking a buyer for its electrical segment. The Menomonee Falls, Wisc.-based company tapped Robert W. Baird & Co. to run the sale process. Meanwhile, Allstate Corp. is seeking a buyer for Lincoln Benefit Life Co., a provider of life insurance services. The unit is reportedly valued at an estimated $900 million. Then there is Billabong International Ltd. (ASE: BBG), the troubled retail chain best known for sportswear and beach attire, which is looking to woo private equity firms to buy three of its segments — DaKine Hawaii Inc., RVCA, and West49.

Kelso & Co., for example, is selling portfolio company Custom Building Products (CBP) Inc., a Seal Beach, Calif.-based manufacturer and wholesaler of ceramic and stone tiles, estimated to be worth about $800 million, in an auction process run by Barclays plc. Kelso invested in CBP originally in 2005.

“A number of PE firms are sitting on companies that they couldn’t sell during the recession. Now, a lot of those companies have to monetize,” says Hilco Global president Antony Karabus.

What does this mean for the remainder of the year? “Investment bankers are busier,” Koenig says. “There are going to be a lot of deals that are going to get done over the next year or so.”