Analysis - Economic Trends

Mega-blocks

Economic incentives for mergers and acquisitions in Gulf States
Friday، October 07، 2016
Mega-blocks

In recent times, mergers and acquisitions among financial corporations have become a global trend, whereby a percentage or all of the ownership rights or use of properties, shares, quotas or obligations are transferred between companies and various economic entities. Such transactions contribute to strengthening growth opportunities and economic expansion, particularly in light of the slowdown in most global markets.

The Gulf Cooperation Council (GCC) was not far from such trends, as it has seen a remarkable increase regarding numbers and values of mergers and acquisitions. The number of such transactions has risen from about 197 mergers and acquisitions worth about $23 billion in 2006 to an average of 423 transactions worth $40 billion last year, and it is expected to witness higher values worth $50.1 billion for 395 transactions by the end of 2016, according to the Institute for Mergers, Acquisitions, and Alliances (IMAA).

Gulf Models

Primarily, a merger refers to a complete union between two companies in one inclusive company, whereby the existence of the merged (target) company ends and its assets and liabilities are transferred to the merger. A union, one form of a merger, means an alliance of two or more companies to form an entirely new entity, where two or more companies cease to exist, while the new entity proceeds with business. However, in an acquisition, a company buys a majority stake in another company without merging the assets of the two concerned companies, and without the termination of the legal status of either of them.

There are many models of mergers and acquisitions in the GCC, which can be classified into two main categories, domestic transactions and cross-border transactions:

1. Most prominent national mergers and acquisitions within the Gulf states:

The First Gulf Bank and the National Bank of Abu Dhabi (both public companies) seek to implement an equal merger deal to create the largest bank in the Middle East and North Africa, regarding assets. The total assets of the merged banks will reach about $175 billion, and total shareholders’ equity equaling roughly $24.5 billion, and its market value being worth about $29.1 billion. The consolidated bank will retain the "National Bank of Abu Dhabi," brand, and the integration is likely to take effect in the first quarter of 2017. Expected results from the merger include the following:

  • To become a leading bank in UAE in terms of assets, with a global network that meets the requirements of target clients. The bank will benefit from its international presence in 19 countries, combining the best banking services to individuals and businesses, and possessing elements allowing it to grow in global wealth management.
  • Cutting costs by AED 500 million annually.
  • Possession of significant capacities through the consolidation of capital and strong liquidity, to allow it seize the strategic growth opportunities.
  • It will enable the merged entity to finance development projects in a way that benefits the UAE economy and reflects positively on trade and investment activities in the country.
  • The deal will likely lead to further mergers in the future within the UAE banking sector, thereby improving efficiency and productivity, and confronting the waning economy amid declining world oil prices.

As part of its efforts to diversify income sources, create stronger economic entities, integrate experiences and prevent duplication of similar investments, especially in the oil sector. The government of Abu Dhabi announced, at the end of June 2016, the merger of its two investment arms, the International Petroleum Investment Company(IPIC) and Mubadala Development Company. The total assets of the two companies amount to $135 billion, with $42 billion in debts.

This merger is expected to be completed between the two parties by the end of 2017, which would augment the growth of multiple sectors including; energy, technology, space industry and health, as well as the real estate and financial investment industries. Similarly, both Saudi International Petrochemical Company (Sipchem) and Sahara Petrochemicals Company, reconsider their plan to merge, after having put the plan on hold in 2014.

2. Cross-border mergers and acquisitions in Gulf states:

Cross-border mergers and acquisitions have increased due to globalization, and the information and communications revolution. The number of cross-border mergers and acquisitions in Kuwait is about 17 worth $ 867.5 million in 2015 and in Saudi Arabia 17 transactions worth around $753.1 million as part of the Kingdom’s vision to promote foreign investment. UAE came on top of the Gulf nations list for the number of cross-border mergers and acquisitions that targeted companies based in the UAE, with 46 transactions worth $450 million last year, according to the United Nations Conference on Trade and Development (UNCTAD).

The number of mergers and acquisitions by Qatari companies abroad last year reached 26 transactions worth $ 8.8 billion, UAE companies carried out 63 transactions worth about $ 5.2 billion, and Saudi companies completed 19 transactions abroad worth about $3.3 billion, as per UNCTAD estimates.

Merger and acquisition incentives

Many reasons drive countries to resort to mergers and acquisitions, particularly the following:

  1. Opening new markets: Private equity firms interested in expanding presence in the Gulf region face some obstacles associated with domestic laws and restrictions on foreign ownership. Thus, some international private equity firms resort to partnering with local companies through mergers and acquisitions to secure a new market through which they can increase their sales.
  2. Increasing managerial and technical capabilities: Sometimes, economic integration with another entity that offers the same goods and services but has a relatively better administrative capacity and technical skills is the desired result of a cross-border merger. Cross-border mergers and acquisitions are characterized mainly by transferring knowledge and modern techniques. In this regard, Gulf states seek investments that can transfer the technical expertise and new technology, and hence they open the door to more mergers and acquisitions. For example, Mubadala Development Company, an Abu Dhabi-based company, and IBM announced a partnership agreement last year with the aim of providing cognitive computing technology across institutions in the region specializing in healthcare, retail, banking, finance and education. This new technology introduces a new relationship between end-users and computer systems, giving people a more user-friendly experience. UAE, Saudi Arabia, and Kuwait have witnessed an increase in the most sophisticated technology projects expertise that has become available to them, according to the findings of the Capital Confidence Barometer in 2016.
  3. Increasing and diversifying revenues: This is to be achieved by increasing the ability of economic entities through strengthening its competitive and financial position/ status by increasing market share due to the relatively higher marketing capacity for large entities or achieving diversification in goods and services.
  4. Cost-cutting: By taking advantage of economies of scale and cutting the costs associated with producing a greater number of products or services.
  5. The drive towards economic reform programs and encouraging foreign investment: It should be noted here that part of Saudi Arabia’s Vision 2030 includes opening up markets to foreign investment. The Kingdom is expected to introduce a new set of laws that can improve the process of mergers and acquisitions.
  6. Provide new financing tools: The emergence of new investment tools allows the facilitation of companies’ abilities to finalize transactions with a significant amount of debt and little equity.

Challenges

Mergers and acquisitions face several challenges or obstacles that should be taken into consideration to avoid potential drawbacks, including the following:

  1. Mergers and acquisitions may lead to the emergence of economic blocs and monopolistic companies, which weaken competition. Hence, most of the Gulf states started to pass legislation and laws to protect competition and combat monopolistic practices; ensuring freedom of trade and fair competition, preventing any practices that could restrict or damage free competition, and prohibit monopolistic mergers and acquisitions.
  2. Mergers and acquisitions may involve reshuffling and restructuring of the merged entities, which may also include restructuring organizational hierarchies and slashing/ reducing employee numbers due to the merging of related departments performing the same functions. In this respect, investors in some countries take into their account the service periods of employees before completing mergers and acquisitions due to the employers’ obligations to pay end of service benefits to such employees, which may be a substantial amount of money.

In conclusion, it can be stated that the GCC has become a massive market for mergers and acquisitions due to many factors, including the pursuit of mega-economic entities with such a technical, technological and capital position that enable them to compete and enhance growth opportunities by leveraging the advantages economies of scale, increasing revenue, diversifying activities and income sources, and accessing new markets.

Keywords: GCCSaudi ArabiaUAEMergersAcquisitionsBankingNBAD