The Market Rout Is About More Than Coronavirus
(Bloomberg Opinion) -- European companies were running to stand still even before they started worrying about the impact of the coronavirus. If investors weren’t preoccupied with the disease, the corporate sector’s weak growth, poor profitability and tendency to do overpriced acquisitions would be front of mind.
Ad group WPP Plc failed to grow underlying sales last year and was guiding for another flat performance in 2020 even before the coronavirus spread. Brewer Anheuser-Busch InBev SA made less profit in the last three months of 2019 than analysts expected. Reckitt Benckiser Group Plc’s new chief executive officer completed a kitchen sinking on Thursday by taking a 5 billion-pound ($6.5 billion) writedown on a $17 billion acquisition led by his predecessor. He also admitted that profit margins — fueled by one cost-cutting deal after another — were unsustainable.
Investors are meanwhile being asked to bail out past mistakes. German pharma group Bayer AG cautioned that it may need to raise some equity to settle lawsuits relating to the Roundup glyphosate weedkiller inherited with its overpriced $66 billion acquisition of Monsanto Co. Aston Martin Lagonda Global Holdings Plc priced an emergency equity offering at 89% below the price of the luxury carmaker’s 2018 initial public offering, having failed to match its capital structure to its business plan.
It’s tempting to dismiss each of these situations as company specific. But they collectively reinforce the impression that the corporate cycle has peaked, growth expectations are elevated, IPOs were done at undeserved prices and acquisitions made in the recent past may not deliver as promised. The owner of WeWork may have failed to list in New York last year, but attempting such an ambitious IPO still had a very top-of-the-market feel.
The valuation of the European stock market, at about 14.5 times forward earnings, leaves little margin for error, say analysts at UBS Group AG. If this year’s earnings are 2% lower than expected, the market would be trading at its historical average, they say. The snag is that this is a small cushion given earnings expectations have been coming down in recent months. For their part, the UBS analysts caution that consensus earnings estimates are still too high.
The immediate priority for European CEOs right now is to protect their workforces and defend their businesses while marshaling a proportionate and reasoned response to the threat of the coronavirus. When that challenge abates, they will have to return to addressing weak growth and pressure on profitability. That will in turn sustain the incentive to do M&A as a means of supporting earnings through cost-cutting, with all the risk of overpaying and writing down the acquisition years later. On the latest evidence, that cycle is hard to break out of.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
Chris Hughes is a Bloomberg Opinion columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.
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