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Debate: Should family businesses be looking to expand or retrench in their home markets given the current climate?

David Craik is a London-based freelance journalist who writes on a range of business issues. 

The year started badly if you are a fan of M&A activity. According to financial research company Capital IQ, global deal volumes dived 26% in the first quarter of 2009 compared to the fourth quarter of 2008.

The recession, the credit-crunch and stock market volatility combined to provide a three-pronged attack on company's hopes of expansion as they horded their cash and waited for better days to arrive. Those days may finally have come as signs of a global economic recovery get stronger and capital markets begin to stabilise. It is some of the globe's leading multi-generational family-owned businesses that are at the forefront of a developing, though as yet still unsteady wave, some as predators and some as the hunted.

Family-controlled computer services provider Perot Systems, founded by Ross Perot, was bought by Dell for $3 billion in September. In October infrastructure firm Ferrovial approved the merger with its subsidiary company Cintra, decreasing the del Pino family's holding by 14% to 44%. Chairman Rafael del Pino Jr said at the time that a key driver behind the deal was to develop a more "efficient and stronger business with much better access to capital markets with increased share liquidity and a more stable stock market valuation".

These moves are happening because companies are seeing signs of a turning point in the recession, they have cash-rich balance sheets and they are determined to seize an opportunity and steal a march on their more indebted competition and become stronger. There is pent-up demand in the marketplace and the severity of the recession means that there are ripe takeover and merger targets out there. In short there are many companies in a variety of sectors that can be bought for prices you would never have dreamed of getting them at before the recession arrived.

The debt markets have yet to thaw completely and so the mega M&A deals we have got used to seeing over the last few years may still be over the horizon. But for a cash-rich family business with low gearing this should hold no fear. They should remember the phrase that cash is "king" in a recession and perhaps look at deals involving smaller sized businesses bursting with ideas and enthusiasm and a need to sell.

So are there any particular sectors or geographies that family-owned businesses should be gearing their M&A strategies towards? The energy, technology, real estate and automotive sectors are being talked up and for destinations. PricewaterhouseCoopers believes India will be one of the top three markets to watch out for over the next 18 months in terms of attractiveness for deals. The Middle East, China and Southeast Asia are also being tipped.

The global economic recovery is happening. There may be talk from some quarters that we are heading for a double-dip recession but the activity shown by so many family-owned businesses in recent months is a good guide that business owners are seeing opportunities. There is only going to be an upward swing in M&A activity over the next few months and the more deals we see the less hesitant buyers will become.

It is time to shake off the shackles, bury the conservatism and realise that the cash you have in the bank can be made to work much harder in expanding your business rather than just picking up a measly amount of interest every month.

But what if you don't have the cash? If an opportunity is there then a solution has to be found. For example, family-controlled brewer Heineken is understood to be in talks with Mexican brewer Femsa with an eye to going beyond its core markets of Western Europe and the US. Heineken has lagged behind rivals such as SABMiller in developing a presence in emerging markets and it is under pressure to make up the ground. However, its chances of making the deal are hampered by the debt it acquired buying parts of Scottish & Newcastle last year. It is faced with a significant decision and one where the answer may be using shares and not cash to seal the deal but still retain a majority stake.

There are opportunities emerging in the marketplace and family-owned businesses should be ready to find ways to capitalise on them.

Michael S Fischer is a New York-based writer who specialises in covering the financial services industry.

A window of opportunity has opened for cash-rich family-owned companies to acquire coveted businesses at unusually low prices from firms in defensive mode or that are themselves trying to raise capital for acquisitions. However, a devil's advocate on a family investment committee can raise some reasonable notes of caution that may tamp down any urge to go on a buying spree.

Start with some basic questions: Is this acquisition really necessary? What are we going to achieve? Are we looking to increase our market share by acquiring and eliminating a competitor?

At present, natural selection has already occurred in many sectors; for example, strong banks have survived the financial crisis, while weaker ones are dying.

Are we going to take over a company that will give us trouble in the future—something the Porsche family probably wishes it had asked before overextending its resources and trying to buy Volkswagen? And very important: Will we have to put some of our managers into the acquired business to order to turn it around? If so, how will this affect the parent company, especially if it is not in tip-top shape?

Two to three years ago, companies were profitable, boasting EBIDTA margins of 15%, 20% or more. Today, they are haemorrhaging cash and heavily geared. They can be bought cheaply, but the buyer also assumes their debts. This in turn requires the purchaser to engage in negotiations with lending banks and repay those debts—a very labour-intensive and time-consuming activity with no guarantee of getting the money back. On top of that, the buyer will likely have to sack workers—a painful process anywhere, and especially tough to do in Europe.

Even if investment committee sentiment heavily favours spending money on acquisitions, the devil's advocate can influence the direction of their interest. He might argue against buying a business for its capacity or client access, and insist that an acquired company have superb technology or specialist know-how. Small companies with know-how or strong technology were making money before last year's financial crisis hit, and were not interested in being acquired. Now they are not making money and so are open to overtures.

Strategic acquisitions of such businesses will pay off handsomely when the economy improves. This consideration likely motivated buyers of Sal Oppenheim's banking operations. The family-owned bank last year suffered its first loss since World War II because of the financial crisis and its position in Germany's insolvent retailer Arcandor. The owners have sold the wealth management business to Deutsche Bank, and are in negotiations with Macquarie Group to take over the investment banking division.

The devil's advocate might also push his colleagues to diversify, for example, by going into clean energy, investors' favourite investment du jour at the moment. But here, too, caution is imperative. If the acquiring company does not have the competency to enter a new sector, it risks seeing the venture turn into a boondoggle. A company needs good advisors and connections to make a good investment.

Today's stricter lending regime looms large for family businesses considering acquisitions. Before the onset of the financial crisis, lenders mainly looked at a company's balance sheet when deciding whether to extend credit. Now, they are conducting much more probing due diligence to understand the operational business and determine whether the company is going to be profitable and make money in the future. Germany's Schaeffler Group amassed debt of some €12 billion in acquiring a majority stake in Continental AG, then got caught in the vice of the credit crunch. It has apparently survived its near-death experience, thanks to recent financing from a consortium of European banks.

If a company meets today's more stringent borrowing criteria, then banks will lend the money. Still, the transactions will be relatively small, as lenders are opening their coffers mainly to companies that are prepared to pay a significant portion of the purchase price with their own equity. In Germany, for example, transactions with 10% or 20% equity are nonexistent; rather, cash-rich buyers are putting up as much as 70% of their own equity when acquiring a company.

The devil's advocate might finally sanction an acquisition, but insist it be conservative. The priority for the family-owned businesses is maintaining its independence. By using its cash wisely, it can weather the current crisis and maintain its workforce, which is good for the overall economy. 

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